Protecting small depositors
Protecting small depositors
The national banks, which have spent about US$75 billion in taxpayers' money on restructuring and recapitalization, will face their first real market test next year after the phasing out of the current government blanket guarantee on bank deposits and claims.
The government has yet to set the date for the establishment of a bank deposit insurance scheme (DIS) to replace the blanket guarantee program, which is currently managed by the Indonesian Bank Restructuring Agency (IBRA). But the government decided at a Cabinet meeting on Monday not to extend the IBRA mandate, which will end in February.
Since the bill on bank deposit insurance scheme (DIS) was proposed to the House of Representatives just two weeks ago, the scheme may become effective only in the second half of next year, given the time needed to educate the general public on the rules and arrangements for the DIS. Hence, the blanket guarantee will remain effective at least until July under the management of another government institution within the Ministry of Finance.
Deposit insurance is one of two key components of the financial safety net, which is vital to promote the stability of the financial system by enhancing public confidence in the banking industry.
The other key component -- the function of lender of last resort -- will also be strengthened under the amendments of the central bank act currently under deliberation at the House.
Unlike the present blanket guarantee program, which creates moral hazards and doesn't allow the market mechanism to properly screen out banks as it covers almost all deposits and bank claims, the DIS is designed to enhance the market discipline of bankers, yet helps safeguard the safety of the banking system.
The most outstanding difference will be in the extent of coverage. The DIS will focus on the protection of small depositors, who are assumed to be incapable of assessing the conditions of their banks, by limiting the amount of deposits to be insured under the scheme.
The current blanket guarantee, which was launched during the height of the banking crisis in January, 1998, covers all deposits, irrespective of their size, and almost all other claims on banks, including those resulting from interbank transactions.
But such a program is now considered a significant disincentive to sound competition within the banking industry because both small and large depositors tend to focus more attention to such factors as the level of deposit interest rate and convenience offered by banks, rather than the condition of their management, capital and ownership.
Such unlimited coverage is certainly unfair because large depositors have the resources to monitor and assess the condition of their banks. Banks should also be able keep themselves posted on each other's soundness. Virtually unlimited coverage also creates moral hazards and imposes large contingent liabilities on the government, which runs the guarantee scheme.
Under the DIS the maximum deposit to be covered will be decreased initially to Rp 5 billion ($588,000), then to Rp 1 billion and finally to only Rp 100 million. Such a gradual decrease will be wise indeed, as it will prevent unnecessary shocks.
The final ceiling is considered ideal for the country because, according to Bank Indonesia reports, more than 90 percent of bank depositors hold small accounts with less than Rp 100 million in savings, even though they account for only around 20 percent of the total of around Rp 850 trillion in third-party funds at banks now. Protecting small depositors will increase household confidence and help protect the payments system.
Large depositors will therefore have to be careful in selecting the banks they deal with, but it is this selection process that will unleash stronger market competition within the industry.
Next year would be the right time to launch the DIS with market-friendly incentives, because the bank restructuring program has been completed. Further postponement of the phasing out of the blanket guarantee would not only expose the government (ie. taxpayers) to larger contingent liabilities but also hinder the market screening of banks.
However, it will be extremely difficult to launch the DIS if amendments to the central bank law have not been enacted, because these changes will strengthen the central bank's function as lender of last resort and its banking supervisory system, two of the vital preconditions needed for effective functioning of a deposit insurance scheme.
___________________