Strong anchor for banks

Strong anchor for banks

The criteria for national anchor banks that was announced by
Bank Indonesia last week will accelerate the pace of
consolidation of the 132 banks into a sound, strong and
efficient, yet leaner banking industry through mergers and
acquisitions.

The sets of qualitative and quantitative requirements are so
comprehensive that most of the existing banks will need to merge
with bigger ones in order to survive as national-class banks, or
convert into specialized or rural banks with tight restrictions
on both their scope of business and their location. Only an
anchor bank will be eligible to acquire other banks and to
operate nationwide.

These stringent requirements, combined with the phase out of
the government's blanket guarantee on bank deposits and claims
that will start next year, will unleash stronger market forces to
screen out weak or under-performing banks.

The central bank said none of the 132 banks had fully met all
the requirements for national anchor banks, but 40 of them had
the potential to do so, meaning that they had already met many of
the criteria.

The directives on the qualifications to become a national
anchor bank are part of the framework of guidelines set for
speeding up the implementation of the 2004 national bank
architecture, which the central bank considered too slow.

The bank architecture, scheduled to be fully implemented by
2014, imposes even much tougher requirements in order to be
qualified as a national and international class bank. Based on
this design, the national banking landscape will feature only two
to three international-class banks with capital exceeding Rp 50
trillion (US$5.13 billion) and three to five national anchor
banks with capital ranging from Rp 10 trillion to Rp 50 trillion.

Thirty to 50 smaller, specialized or focused banks with
capital ranging from Rp 100 billion to Rp 10 trillion, and
thousands of rural or community banks with capital less than Rp
100 billion will supplement the national anchor and
international-class banks.

However, higher capital standards, though very important, are
not sufficient to build a sound, strong and efficient bank
because, as the recent discovery of huge numbers of bad loans at
the country's largest bank showed, effective risk management is
the key to sound operations.

The central bank, therefore, has rightly set two layers of
criteria for a bank to become a national anchor bank. The first
layer features requirements to become a well-performing bank that
includes a minimum core capital of more than Rp 100 billion, a
good governance system, effective risk-management and a minimum
capital adequacy ratio (CAR) of 10 percent.

The second layer covers a minimum CAR of 12 percent, minimum
return on assets of 1.5 percent, credit growth of 22 percent,
loan to deposit ratio of 50 percent, ratio of bad credit to total
lending at 5 percent, and being listed on the stock exchange.

These two sets of criteria actually support each other. Good
corporate governance is the foundation for developing effective
internal control systems and a reliable risk management. Big
capital is necessary to enable a bank to provide lifeblood to the
economy and a bank must make reasonable earnings to further
strengthen its capital and expand its operations. Effective risk
management is pivotal for banks as banking inherently involves
taking a wide array of risks.

The requirements for becoming an anchor bank are so tough that
one may rest assured that the country's banking landscape will
consist only of sound and strong banks.

This is, however, correct only on paper. The criteria are
meaningless without proper enforcement and this in turn is
possible only if the central bank, as the supervisor of the
banking industry, is capable of conducting effective supervision.

Effective supervision requires Bank Indonesia's supervisors to
be well appraised of the decision-making structures and
operations of all banks. Only well-informed supervisors with high
integrity will be capable of assessing, from time to time, the
integrity and competence of bank management and understanding the
risks taken by banks and their current and future profitability
and earnings.

Recent cases where lending frauds and other banking crimes
went undetected for almost a year shows how the central bank has
to work much harder to improve the technical competence and
integrity of its bank supervisors.