Insuring small depositors
Insuring small depositors JP/6/ED26 Insuring small depositors
People with large financial assets should be more careful in choosing the banks they deal with because the government blanket guarantee is gradually being phased out to cover only deposits to a maximum of Rp 100 million (US$10,000) by March, 2007.
The gradual dilution of the blanket guarantee began last week with the start-up operations of the state-owned Deposit Insurance Agency, with a paid up capital of Rp 4 trillion. It is this agency that will reimburse depositors in case a bank becomes insolvent and has to be closed and liquidated.
Many depositors these days are often influenced more by levels of deposit interest rates or such factors of convenience as location, rather than the soundness of the financial institutions, because they can rest assured that whatever may happen to the bank, all their savings or deposits will be reimbursed by the government.
But this unlimited guarantee is now considered a big disincentive to sound competition within the banking industry. Large depositors have the resources to monitor and assess the conditions of their banks. Moreover, the blanket guarantee creates moral hazards and imposes large contingent liabilities on the government.
The new deposit insurance scheme run by the agency will cover deposits of only up to Rp 5 billion by March, 2006. This ceiling will further decline to Rp 2 billion in September, 2006 and finally fall to a maximum Rp 100 million by March, 2007.
Deposit insurance is one of two key components of the financial safety net, vital to promoting the stability of the financial system by enhancing public confidence in the banking industry. The other key component -- the lender-of-last- resort function -- has been strengthened under the amendments of the central bank act last year.
The phasing out of the blanket guarantee, which was launched at the height of the banking crisis in January, 1998, will likely ensure people become more careful when choosing banks they deal with.
As big depositors put banks under stronger scrutiny, giving more attention to their soundness and franchise, rather than their deposit interest rates, deposits will likely move from one bank to another to seek higher quality (capital flight to quality). But it is this process that will strengthen the market screening of banks.
This, and the tough new criteria for a national anchor bank, which was announced by Bank Indonesia last July, will further accelerate the consolidation of the 130 banks into a sound, strong and efficient, yet leaner banking industry through mergers or acquisitions.
The sets of qualitative and quantitative requirements for becoming a national anchor bank are so comprehensive that most of the existing banks will have to merge with bigger ones to survive as national-class banks, or convert into specialized or rural banks with tight restrictions on the scope of business and location.
The deposit insurance program will focus on the protection of small depositors, who are supposed to be incapable of assessing the conditions of their banks. The final ceiling of Rp 100 million is considered ideal for Indonesia because, according to Bank Indonesia's reports, more than 90 percent of bank depositors hold small accounts with less than Rp 100 million in savings, although they account for only around 20 percent of the total of around Rp 1,000 trillion in third-party funds at banks now. Protecting small depositors will therefore increase household confidence and help protect the payments system.
However, the deposit insurance scheme and the strong lender-of last resort function of the central bank, though vital for maintaining the public's confidence in the banking industry, is not enough. The Deposit Insurance Agency now has a capital of only Rp 4 trillion -- compared this to the Rp 1,000 trillion in third-party deposits at banks now -- and its capital will increase only incrementally because the insurance premium it charges on banks is limited to 0.2 percent of deposits.
Bank Indonesia should continue strengthening its bank supervisory system to force banks to accelerate their operational restructuring. The Deposit Insurance Agency will not be able to execute its function properly and will not have enough money to reimburse depositors, if the banking industry remains fragile and the incidence of insolvent banks remains high.
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