Stronger banking reform

The flurry of bank merger plans announced over the past two weeks should be welcomed as part of a broad program to strengthen the banking industry. The steady plunge in the rupiah's exchange rate since July and the quick increase in the amount of bad credits since early this year warrant an equally steep rise in the minimum capital requirement for banks.

The minimum capital requirement of Rp 150 billion for a foreign exchange bank is meaningless since it now amounts only to an equivalent of US$11.5 million. This tiny sum, besides being negligible for a financial institution dealing in domestic and international transactions, is not conducive to forcing shareholders to be extremely prudent. Given the liquidity crunch at present, mergers and strategic alliances with foreign banks are indeed the best option for banks to strengthen their capital base.

However, a merger in of itself is not a guarantee for strengthening a capital base unless the merging banks are required to strip themselves of their bad credit to ensure that the assets of the new bank is based on internationally recognized accounting standards regarding loan classifications, provisioning and consolidation. A credible asset valuation is even more essential to make the merged banks viable for a joint venture with a foreign bank.

On the other hand, a strong capital base alone, though necessary, is not enough to ensure the growth of a sound bank. It is instead only one of many other elements which make up an overall framework for a sound financial system.

We wonder, therefore, why the central bank, as the banking supervisory authority, has not yet enacted stronger rules on internal and external bank governance. The central bank must have realized that the weak, nontransparent banking system is one of the main causes of the persistent weakening of the rupiah to as low as 15,000 against the American dollar last week. Given the inadequate depth and breadth of our financial market, banks are still the main pipeline of money, the life blood of the economy.

It should have been quite obvious that the closing of the 16 banks in early November, however bold it might have been, was merely a small part of what is supposed to be an overall restructuring of the financial sector. The liquidation should have immediately been supplemented with stronger measures to strengthen the capital, ownership, management and supervision of the remaining 220 banks.

Shareholders should form the first cornerstone of a bank's internal governance. A good bank can exist even under an inadequate supervisory framework but a good bank can never emerge under a bad system of ownership governance. Good management starts with the owners and extends down to the management executives and employees. Set against this principle, it was, therefore, quite strange how the owner of one of the liquidated banks could have so easily opened a new bank.

Government supervision of banks starts with a strong legal framework in the form of internationally accepted standard reporting, disclosure and accounting. But these rules cannot by themselves produce high-quality bank supervision if their enforcement is not managed by a central bank with technical competence and political autonomy.

The situation is already quite critical. Domestic depositors have now shunned most private national banks, preferring to put their savings in foreign bank branches or offshore banks. Another devastating condition is the tendency among many foreign banks to stop honoring letters of credit issued by most Indonesian banks. Letters of credit are the wheels of international trade and if these wheels stop rolling, the doors of international trade would eventually close to our companies precisely at a time when we are severely strapped for foreign exchange to get out of the current crisis.

It is not an exaggeration to say that most of our banks are now living on borrowed time. Unless the government acts firmly and quickly on the overall restructuring of the financial sector, as stipulated in the reinforced reform package agreed with the International Monetary Fund on Jan. 15, our economy is in for a deeper crisis from which it may take more than a decade to recover.