Merger of state banks

We had almost disregarded Presidential Instruction No.5/1988 concerning the reform of state enterprises as another government program which had petered out for lack of political will when Minister of Finance Mar'ie Muhammad confirmed last week a plan to merge the seven state banks. Mar'ie said President Soeharto had agreed in principle on the planned mergers.

The measure obviously will be monumental work, much more complex and intricate than the merging of the three state cement companies two years ago. Hence the President's seal of approval is essential to garner the support of all parties involved.

Moreover, the move will have a far-reaching impact in view of the vital role of state banks in the financial sector -- the lifeblood of economic activities. Though state banks, in terms of number, account for only around 3 percent of the 237 banks throughout the country, they are responsible for more than 37 percent of total bank lendings and control one third of total banking assets.

However, the size of assets does not automatically reflect operational efficiency and level of competitiveness, as shown by Indonesian bank ratings announced by the Infobank banking magazine early this month. None of the state banks ranked very sound in the rating, which was based on the main parameters used by the central bank to assess banks such as capital standards, profitability, liquidity, net interest margin, legal lending limits.

Only Bank Rakyat Indonesia and Bank Tabungan Negara were rated as sound, three others -- Bank Dagang Negara, Bank Ekspor Impor Indonesia and Bank Negara Indonesia -- ranked fairly sound, while Bank Bumi Daya was assessed as not sound and Bank Pembangunan Indonesia (Bapindo) was not even rated as it had not issued financial reports since 1994.

Mar'ie asserted that the planned mergers had nothing to do with the problem of bad credits at state banks, which amounted to 4.6 percent of their total loans outstanding as of March. Instead, Mar'ie said, the restructuring was designed to prepare the banks for the increased competition following the liberalization of the region's financial markets, especially when the ASEAN Free Trade Area (AFTA) starts operating in 2003.

As the country has become an increasingly significant player in the international market both as exporter and importer, it needs the support of strong and competitive financial institutions. The state banks, though ranked among the 15 largest banks in the country in terms of assets, simply lack the capital resources, networks, sophistication and technological advantage to provide adequate support to Indonesia's foreign trade. Their combined assets totaled only around $87.5 billion as of December, much less even compared, for example, to Wells Fargo & Co., the 11th largest bank in the U.S. with total assets of US$108.8 billion.

The mergers are not likely to be completed before 2000, given the considerable, delicate work involved. First, thorough studies have to be made to choose which bank should be merged with which to get the best synergy. Then follows the long process of asset evaluation, distribution, network realignment, operational synchronization. But if the government is really serious about the restructuring, the mergers should be completed by 2001 at the latest, thereby giving the newly merged banks almost two years to consolidate operations before the start of AFTA in 2003.

The mergers, however, will be rendered less effective in improving the efficiency and effectiveness of the state banks, if the government continues to meddle in their managements. In fact, lack of management autonomy has become one of the biggest obstacles faced by the managements of most state companies. Many state firms are still often treated by ministries as their cash cows. The World Bank, for example, notes in its 1997 report on Indonesia that state banks' efficiency seems little changed, as does their credit assessment procedures, resulting in large bad credits.