Financial deepening in Indonesia is indispensable in achieving a high and inclusive economic development. Indonesia’s credit to GDP ratio of 31.03 percent is low when compared to the countries in ASEAN-5, further emphasizing the importance of Financial Deepening in Indonesia (Soedarmono et al., 2017a). With the low credit to GDP ratio, the banking sector plays a great role in increasing credits and preventing the systematic risk. Optimizing the credit ratio will enhance the capital turnover, consequently creating a conducive business environment in Indonesia and to further alleviate poverty.
Despite its ability to encourage economic growth, financial deepening may lead to macroeconomic instability due to the widening of the current account deficit when the economy is growing. It will increase the risks of capital outflow. Macroeconomic conditions will then be depressed and unstable, hampering the poverty alleviation in Indonesia.
The financial deepening and increasing of economic growth able to boost the current account balance in Indonesia. Increasing current account balance will decrease the deficit in the current account deficit. Due to the current account deficit, financial deepening may create a short-term risk of capital outflow because of the foreign capital structure in Indonesia is still dominated by short-term portfolio investment (Basri, 2016). In 2017, portfolio investment increased 8.77 percent to USD 20,662 million with the composition of short-term liabilities of 9.4 percent of total portfolio investment (Bank of Indonesia, 2017). Despite all that, the financial deepening still retains its potential in reducing the deficit level of the current account balance due to the positive amount of gross savings.
The credit disbursements in Indonesia have the potential to alleviate the poverty if the type of credit is working capital credit. the percentage of loan growth in Indonesia by type of use is still dominated by consumption loans which is 9,19 percent compared to working capital of only 8,35 percent per September 2017 (Bank of Indonesia, 2017). According to Soedarmono, et al (2017) the financial deepening of working capital credits will have a positive and monotonous impact on economic growth. Working capital credits become the productive loans because of the money allocate to business. To enhance the working capital credits, the credit for the poor (KUR) should be optimized. From the supply side, the banking sectors provide money and could decrease the Non-Performing Loan (NPL). The demand from the customers always exist because of the pattern of the borrower is repeatedly lend the credit. Afterward, the branchless office for the banking should be optimized because of the good penetration of technology in Indonesia. To increase the financial deepening, the government has to shift the method of social assistance payment system from cash to e-money. The cashless payment makes the paradigm of poverty to allocate the money productively.
Therefore, financial deepening has the potential to increase poverty alleviation in Indonesia. The strategies are maintaining the credit to the poor program by Indonesia government, optimizing branchless office, and shifting the payment method of social assistance. Unfortunately, financial deepening has the potential risk of capital outflow in the short-term and causing macroeconomics instability. The risk of capital outflow, however, can be minimized by raising the level of gross savings, allowing the government to hoard funds for further economic development. A bank, as a financial intermediary, has the role in disbursing the work capital credit to enhance the economic growth and later affecting the alleviation of poverty in Indonesia.