Addressing Challenges in Indonesia’s Pension Funds

by Admin IFG Progress


12 January 2024

Authors: Ibrahim Kholilul Rohman[1] and Mohammad Alvin Prabowosunu[2]


Financial sector is seen as an important catalyst to spur economic development through capital accumulation and technological progress by increasing the savings rate, mobilizing and pooling savings, as well as optimizing the allocation of capital.

In a developing country like Indonesia, while the pace of development should go hand-in-hand, it is apparent that the non-bank financial institutions (NBFI) have been growing at a slower growth rate compared with the banks, especially due to the lower uptake and literacy for society at large. The survey conducted by the Financial Services Authority (FSA) in 2019 shows that the percentage of literacy on NBFI is lower than banks. The pension fund is particularly low at 14% compared with banks at 36% and insurance at 18%.

The recent issue involving pension funds in Indonesia has been largely discussed, especially related to the scheme that covers civil servants and armed forces. Minister of Finance Sri Mulyani argued the current scheme will add substantial pressure on the government budget without proper reforms.

Indonesia is currently reaping the advantage demographic dividend, where the share of the productive population exceeds the non-productive ones including the youth and elderly. However, due to the natality rate slowdown, it is estimated that in the next 15 years, we will experience the aging population phenomenon. Similar to what is currently happening in South Korea and Japan.

There are several challenges that need to be addressed in the pension funds industry in Indonesia. These challenges can be divided into the demand-side mainly related to the size of coverage and contribution and the supply-side challenges concerning the institutional setting and the governance of the industry.

From the demand-side analysis, the pension fund penetration rate in Indonesia is still sub-optimal relative to other comparable countries. The mandatory pension funds asset to GDP ratio only sits around 4.8% of GDP in 2021. This ratio is much lower compared with other ASEAN countries such as Malaysia (61.4%) and Thailand (12.7%).

Among the reasons, to be enrolled in a Pension Security program in Indonesia, a person must be identified as a formal worker. However, the number of formal workers is still miniscule, with only less than 45% out of the total labour force. Thus, the number of workers that have pension fund membership is only forming around 16% out of the total labour force. Moreover, Indonesia’s mandatory contribution rate for both the Old-Age Security (Jaminan Hari Tua/JHT) and the Pension Security (Jaminan Pensiun/JP) amounting at 8.7% of workers’ income, which is less than almost every country in ASEAN except Thailand’s mandatory pension fund.

The lower pension fund penetration is attributed to the lower income of Indonesia’s workers compared to other countries. IFG Progress estimated assuming that income is the single factor deciding a pension fund ownership, we need around 10 years to achieve the Asian countries’ average pension fund penetration rates.

Hence, there is a bidirectional relationship that without a proper pension scheme, some fraction of the future generation might find hardships to make their living. On the other hand, there is a threshold of income level required for someone to put their money for a pension fund account.

On the supply-side challenges, Indonesia’s pension funds industry does not perform well in terms of investment allocation policy and the implementation of governance. In terms of investment allocation, Indonesia’s public pension funds mostly allocate their assets in fixed income instruments. While this partly happens due to a specific rule set by FSA to allocate at least 50% of pension fund assets into fixed income instruments, it might not be beneficial in the long run. Economic volatility is seen to be more prevalent in equity class assets vis-à-vis fixed income instruments. However, in the longer-term period, equity returns always beat fixed income. There is probably a necessity to revisit the regulation.

Pension fund is also peculiar with the characteristics of the liability-side which is varied depending on the police ownership. In a  defined benefit scheme such as the one implemented in JP,  the investment strategy should always maintain the asset-liability management to manage risk of insolvency and ensure risk-adjusted optimal return for every liability profiles. Otherwise, there will be a looming risk of pension fund deficit if this strategy is not performed.

Moreover, the governance aspect is also crucial. According to Mercer-CFA Institute Global Pension Index, Indonesia’s pension fund score for governance is still below the average score compared to the 39 other sample countries. To achieve its maximum potential, prudent pension fund management is required. Improving governance is one of the keys that the government can strive to achieve. This strategy might be introduced by setting a proper investment governance guideline, effective risk management, accountability, transparency and strong mutual oversight.

Besides the demand and supply factor, the Indonesia’s pension fund industry should also anticipate the unforeseen external circumstances due to economic downturns. Lessons learnt from the UK shed light on the importance of anticipation as the consequence of both the fiscal and monetary policy might contradict.

The UK pension fund blow-up in late September 2022 has been a result of desynchronized policies between the monetary and fiscal authorities.  The UK central bank implemented a contractionary monetary policy through raising interest rate while the fiscal side of the Ministry of Finance prefers a more expansionary fiscal policy through tax cut.  These contradictions had detrimental effects towards bond market yields, thus disrupting fixed income instruments’ valuation and pension funds liquidity.

In the short run, as the global economy is predicted to experience more uncertainties in 2023 due to possible global stagflation denoted by high-inflation and economic-slowdown, policy harmonization will be critical to protect the pension fund industry in Indonesia whose asset allocation has been mostly on the fixed income instruments.


This article was published in with the title “Addressing Challenges in Indonesia’s Pension Funds”. Click to read: Addressing challenges in Indonesia’s pension funds – Academia – The Jakarta Post


[1] Senior Economist at IFG Progress and Lecturer on Digital Economics at Faculty of Economics and Business-UI.

[1] Research Associate at IFG Progress


Baca Juga