Illustration of a bank (Shutterstock/Anton Violin)

The Financial Services Authority (OJK) has said it is now designing new measures and incentives to accelerate bank consolidation because the industry is still too heavily crowded by small banks, which are highly vulnerable to financial distress. 

The number of commercial banks remains large at 115, compared to 138 in 2004 when the national Banking Architecture plan was launched by Bank Indonesia (BI) to develop a leaner banking landscape. The plan, which was supposed to have been completed in 2014, was designed to develop three international-class banks with capital exceeding US$5.8 billion, three to five national anchor banks each with capital ranging from $1.5 billion to $5.8 billion and 30 to 50 smaller specialized banks. These banks were to be supplemented by thousands of rural or community banks. 

The Indonesian Banks Association itself has admitted that 50 to 70 commercial banks are more than adequate to secure fair competition within the industry. Faster bank consolidation has now become an imperative because of the rapid changes in the entire environment of the financial service industry.

Many financial technology (fintech) companies have entered the market and the government is now finalizing the process of putting the four state-owned banks, which together control 40 percent of the industry’s total assets, under one holding company.

However, BI rulings that control ownership through the “single presence policy” and that set a maximum 40 percent stake acquisition by a single shareholder have hindered the process of consolidation, as mergers and acquisitions have become more difficult and complex. 

As the central bank has raised its policy rate to as high as 6 percent to cope with the impact of the money tightening policy of the United States Federal Reserve, the competition for savings and deposits within the industry has been so fierce that most small and many mid-size banks find it difficult to raise funds.

In fact, analysts have estimated that the 20 biggest banks control more than 85 percent of the deposit and credit market, leaving the other 95 banks scrambling for the remaining 15 percent. The sharp liquidity and credit segmentation amid the high interest-rate environment is making many banks more vulnerable to market shocks.

Having too many banks not only overburdens the OJK oversight system but also exposes the whole industry to systemic shocks amid the volatile financial market. If, say, more than five small banks, even if they account for a mere 1 percent of total banking assets, face severe liquidity problems at the same time, this could set off a psychological panic among depositors and runs on many other small and mid-size banks.

Hence, we think, while the banking industry is now strong, the government should consider taking bolder measures to speed up bank consolidation. One of them could be to reduce the maximum amount of deposits covered by the Deposit Insurance Corporation, which now totals Rp 2 billion ($138,000) per depositor at a bank. Such a measure would unleash stronger market forces to screen out small, weak and inefficient banks.