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Five adverse effects of big bank mergers
Bank Indonesia (BI) is of the opinion that Indonesia needs to merge banks so that the country can have a large bank in ASEAN, like Malaysia
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Bank Indonesia (BI) is of the opinion that Indonesia needs to merge banks so that the country can have a large bank in ASEAN, like Malaysia. The Financial Services Authority (OJK) has been urging state-owned banks to consolidate to increase assets and capital, so that the banks will be strong and ready to compete in the ASEAN Economic Community (AEC).
Commission XI overseeing financial affairs at the House of Representatives also supports a merger between state-owned banks.
Last, but not least, the chairman of the Indonesian Banking Association (Perbanas) has said he also dreamed of merging banks BNI, Mandiri and BTN (the mortgage bank).
The consolidation of these three state banks would result in a large bank with total assets of US$102 billion, almost equivalent to the joint GDP of Bulgaria and Slovenia in 2013.
But I am against this merger for the following reasons:
First, merging Mandiri and BNI, and other big banks, will absorb the most important economic resource, human capital. To manage a super large international bank and be adaptive to a rapidly changing business environment, the best talent is required.
This kind of talent is growing fast in Indonesia, but not in proportion to the total population. For example, the 50 safest banks in the world are in Europe, the US and Singapore.
The human development index of those countries was above 0.90 in 2013, as against Indonesia's 0.68.
On the other hand, there is an increasing number of talented people who have chosen a career in the banking industry because of the higher remuneration and prestige.
This has resulted in a trend that is seeing more young people preferring to study law and social sciences instead of technology sciences.
Although everyone has the right to choose, if the authorities let this habit continue, especially by merging these banks, then this trend will speed up and eventually dominate the economy.
The productive sectors and the innovative sectors are in need of these talented people, and in all conscience they should be a priority, especially if people want to understand the essence of the mission and vision of the new government in the context of human resources, innovation, competitiveness and small economies.
The added value that Indonesia needs is in the productive, innovative and technology sectors and small industries.
These sectors are the fundamental source of job creation, alongside the broader supply chain. Human resources should be emphasized for these sectors.
As an illustration, during the Meiji period (1868-1912), the Japanese sent their youth abroad and brought in foreign teachers to teach modern science, mathematics and technology.
The Japanese built all the largest industrial technologies. That was the goal, and it was is not to build the largest banks.
Second, banks that become unnaturally large make the financial system complex and concentrated. In a complex system, it is not feasible to understand all of the interactions between hundreds of variables and the influence those variables can have.
As a result, the system becomes fragile. Anything that is fragile is easily breakable. If the three banks merge and become a very big bank, the government will have to set aside a huge sum of money for bailout funds if this huge bank were to collapse.
Instead, if no merger takes place, there is no concentration and if one of those banks fails it would not automatically drag the other two banks down and the bailout would be limited.
Third, the excessive attention given to the four major banks so far has resulted in unfairness to the rest of the banking industry.
The obvious example is the multiple licensing regulation, in which BI categorizes banks based on core capital. The largest category includes banks with capital of more than Rp 30 trillion ($2.5 billion), whose activities are not restricted.
This regulation makes it difficult for small banks to grow without raising capital.
A practical substantiation can be presented in the table. With a similar level of capital, the four large banks have doubled their profitability compared to the medium and small banks. This proves that the four big banks have dominated on all fronts.
In fact, to the contrary, Indonesia needs small banks and newcomers to challenge the big banks. By achieving that, the quality of banking services would continue to improve.
Furthermore, small banks cannot be considered insignificant. Consider the cost to rescue a small bank like Bank Century (now Bank Mutiara) in 2008.
For that reason, small banks need to be supervised appropriately. Weak banks should be closed before market forces push the issue. (see table below)
Fourth, one of the aims of forming the largest bank in ASEAN is to open the way for Indonesian banks to expand overseas.
In my opinion, such an adventure should not be a priority yet. In turn, it is not taboo to be a hero at home instead, because the Indonesian banking industry is very profitable.
Consider the ratio of banking assets to GDP in Indonesia, which was 49.3 percent in June 2014 compared to 233.2 percent in Singapore and 172 percent in Malaysia. Therefore, the Indonesian banking industry has great potential going forward.
It is also not certain whether Indonesian banks expanding abroad will have the competitive advantages to compete.
When a bank fails abroad, domestic funds have to bear the cost. Iceland was always proud of its banks expanding into international markets.
After the banks crashed because of an expansion that was too imposing without a clear competitive advantage, Iceland had to bear a heavy fiscal burden and bankruptcy.
For these reasons, Indonesian banks should continue strengthening themselves to secure their place in the domestic market, because otherwise foreign banks will steal their market share.
Expansion abroad is a secondary issue and should happen naturally, for example, to support the expansion of trade and export industries in the near future.
This last point is also in line with the vision and mission of the new government.
Fifth, only a few gain from the prosperity of the mega mergers of big banks. Usually this is a strong group with strong lobbying skills.
Based on the recent banking crisis in the US and Europe, excessive remuneration and prestige seem to have increased the risk appetite of the management.
In Europe, before the 2008 crisis, banks took over other banks to prevent being taken over. Some called it 'the extreme self-enrichment culture', which was the main driver for risk taking.
An example is the top executive of ABN Amro in the 2000s. The analysts dubbed him 'the empire builder', as he was ambitious and bought everything that he could to create the most complete bank in the world.
Finally, the Dutch government took over ABN Amro in 2008, at the price of ¤16.8 billion to avoid a systematic fail.
The executive had left earlier with a golden handshake of 26 million euros in his pocket.
The essence is that we should learn from the history of banking failures in the western world.
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The writer, who has worked in the Dutch banking sector since 1998 as a credit analyst and accountant, is now a credit risk portfolio analyst at DHB Bank in Rotterdam.
