For most of its history, the Indonesian banking sector has been highly regulated, with the government often intervening in a heavy-handed manner to achieve policy goals and correct larger economic concerns. The results have been mixed, with the authorities erring at times on the side of too much control and at other times on the side of too much freedom, with some of the reforms of the 1980s and 1990s having weakened the sector ahead of the 1997-98 crisis.
However, since the crisis of the late 1990s, the sector has been well supervised and managed, and the balance struck by the authorities has resulted in stability and growth. The country’s banks are now among the most profitable in the world and the most stable in the region. Pressure is mounting to make the sector more restrictive. While the policy shift may be justified, the risk is that new legislation and rules could stifle the sector and weaken the economy as a whole.
Banking started in Indonesia under the Dutch in 1746 with the founding of De Bank van Leening, which was quickly merged and then went bankrupt. The central bank was officially formed in 1953, tracing its roots back to De Javasche Bank (founded 1828). Dutch banks in the newly independent country were nationalised in 1957, while non-Dutch banks were liquidated. Very early on, banks were closely supervised by the new central bank, which sought to bring inflation under control, direct lending so that it went to productive sectors and make sure banks remained liquid and solvent. That was followed by years of government control. Banks were nationalised, new licences were frozen and the total number of primary institutions was reduced to three. Foreign banks were later allowed to return, but only if all their shares were held by Indonesians and if they did not take deposits from the public.
Upon the establishment of the New Order in 1965, the number of banks was increased and non-bank financial service providers were allowed to form. The sector nevertheless remained tightly control by both the government and the central bank. Deregulation began in earnest in 1983 to boost the stagnant banking sector. Credit ceilings were ended and banks were free to set deposit and lending rates. Supervision was increased, and the central bank created a blacklist, banning listed individuals from working in the sector.
However, then a series of deregulation measures came in rapid succession: 1988, 1991 and 1992 (the new Banking Act). Credit expanded and risks increased as a result of these measures, and some of what was done contributed to the instability of the late 1990s.
Getting it Right
In the wake of the crisis, reform measures were quickly and then steadily implemented. The Bank Indonesia Act of 1999 gave the central bank its independence and increased its supervisory powers. Deposit insurance began in 2005, international capital standards were adopted and consolidation encouraged. The liberalisation of foreign ownership rules was instituted over time, but it was the crisis of 1997-98 that brought full opening. The 1992 law allowed for 49% ownership, then Presidential Regulation 29/1999 allowed for 99% foreign ownership (or 100% if a bank’s shares were bought off the stock exchange). This led to high foreign ownership in the sector.
Real-time gross settlement was implemented in 2000, risk management principles were introduced in 2003 and money-laundering laws were passed in 2003 and 2004. Efforts have also been made to implement Basel capital requirements for over a decade. Branch rules were written in 2012 with a 2016 deadline; the regulation requires banks, with the notable exception of certain government banks, to add capital for each branch opened – up to Rp10bn ($826,600) for a full branch and as little as Rp1bn ($82,660) for a cash outlet.
In 2011 the country established the Financial Services Authority (OJK), which has become the primary regulator of the banking and finance sector. The OJK took up its role in 2014 and issued a raft of rules, publishing regulations on risk management and governance for financial conglomerates, branchless banking, rural development banks and sharia-compliant banks.
One of the most important sector developments has involved shareholdings. In 2012 the central bank issued ownership rules stating that a single bank or non-bank can own up to 40% of a local bank, a non-financial company can own 30% and an individual can hold 20%. A foreign bank can exceed these limits and can still own up to 99% of the equity if it meets a number of strict criteria. The parent bank must be sound and stable, meet capital requirements, be listed, receive OJK approval and clear a number of other hurdles. The acquiring bank must list 20% of the target’s stock within five years. Importantly, the single-presence rules do not apply to state-owned banks, and the OJK can waive the rules at any time.
The rules were followed by the proposal of a new banking bill. The bill reiterated the 40% limit on foreign banks and said that a foreign bank may no longer access the local market via a branch presence. The foreign banks would have five years to comply, though it was not clear whether existing banks would be grandfathered or not. This law would affect Citibank, Deutsche Bank, HSBC, JPM organ Chase & Co, all operating as branches, and a number of banks above the 40% limit: CIMB Niaga, Bank Danamon, Panin Bank, Bank Permata and Bank Internasional Indonesia (BII).
As of early 2015 the draft bill had been scrapped but a new draft bill was being developed that maintained many of the foreign bank restrictions found in the original, according to a Jakarta Post report.
Fair is Fair
Bank ownership is an issue because Indonesia believes that other ASEAN countries do not treat it fairly. Indonesia’s 99% limit is by far the most liberal in the region. Malaysia caps foreign ownership at 30%, while Singapore and Thailand require government approval for going over fixed levels. Malaysian banks have a significant presence in Indonesia in the form of CIMB Niaga, BII Maybank and Maybank Syariah Indonesia. The issue came to a head in 2012, when Singapore’s DBS said it was seeking a controlling stake in Danamon. Due to the new 2012 rules, its ownership was capped at 40%. “Reciprocity is not about protectionism, it is about a level playing field,” Andry Asmoro, senior economist at Bank Mandiri, told OBG.
The moves with respect to foreign ownership have caused a great deal of concern. Existing international players do not know where they stand and whether they will be forced to completely restructure in a few years’ time, incorporating, taking on local shareholders or listing on the public markets. They say that even if they were willing to go through the exercise of partnering with local shareholders, they are not sure if anyone in Indonesia has the capital to take on the 60% or so that will be needed. Under current international capital rules, a 40% holding would have to be consolidated, which would mean that capital would have to be raised for the entire subsidiary and not just the 40% stake.
While the foreign banks are enthusiastic about the market’s potential, many question whether implementation of the new rules will negatively affect business. “We would have to bring in new capital, and we would have to think about that,” Tony Costa, president-director at Commonwealth Bank Indonesia, told OBG.
New players might be hesitant to invest, not only because of the restrictions but also because of the unpredictability. Foreign ownership restrictions have been discussed for many years and various interpretations have been offered in the press about what may happen. While the possibility of waivers is promising, it makes the entire process less than transparent. In this environment it is difficult to make a long-term commitment. Bankers sympathise with Indonesia’s position; they can see that the country has not been treated on an equal basis by regional counterparts and they do see reason for concern, but they also say this is the wrong time to be alienating the international banks.
Indonesia is going to need funding in the near and medium term, as well as financial expertise, if it is going to build its infrastructure and create an industrial base. Strong international banks will help to accomplish this. “If you look at the funding needs of the country, it will have to come from overseas,” said Costa.
In addition to grandfathering or granting waivers under existing laws, Indonesia can distinguish between the types of banks that are of concern and those that are not. Indonesia is most worried about the carving up of its retail market and upsetting competition in loans, and wholesale banks could carry on as usual. Banks from markets that allow majority foreign ownership could be allowed controlling stakes. Bilateral agreements could also be reached to address issues of access, such as a 2014 agreement signed with Malaysia to increase Indonesia’s access there.
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