Indonesia’s foreign banks to need bond capital buffer

Indonesia’s central bank will require foreign banks in Southeast Asia’s largest economy to hold 8 percent of their local third party funds in bonds as a capital buffer from 2014, its governor said.

Bank Indonesia will also link permits for all banks’ business activities and products to their level of core capital, in a new regulation planned for January aimed at ensuring the financial health of a fragmented banking sector.

Indonesia’s larger banks have maintained high levels of Tier 1 capital amid double-digit loan growth and proved resilient to global financial troubles, but there are many small rural lenders across the archipelago and the central bank has stepped up its efforts to regulate the sector this year.

The capital requirement for foreign banks, called CEMA, can be held by their local offices in government bonds, central bank debt paper (SBIs) or corporate bonds. Regulators around the world have stepped up requirements for banks’ capital buffers since the 2008 credit crisis.

“CEMA cannot be redeemed. Whatever happens with its main office, it has to stay here,” said Governor Darmin Nasution at an annual bankers’ dinner, adding the requirement was to shield a local branch if its main office ran into financial problems.

The requirement is unlikely to deter global banks from expanding in Indonesia where the economy is growing over 6 percent per year and loan growth stands at over 20 percent.

Indonesia has one of the region’s most open banking sectors, though Bank Indonesia (BI), also the country’s banking regulator, announced new rules in July that cap foreign investment in local banks.

Financial institutions will be able to hold up to 40 percent of local banks, while non-financial institutions can hold up to 30 percent and individuals only 20 percent, down from the 99 percent ownership allowed under previous rules.

Eight of the biggest 11 Indonesian banks by market value are controlled either by foreign banks, business families, private equity firms or wealth funds. Southeast Asia’s largest lender DBS Group is bidding $7 billion for Bank Danamon , but it is not clear if BI will approve the deal.

Its latest policy move will affect operations most for local banks with capital of less than 1 trillion rupiah ($103.87 million), by stopping them from injecting capital into other financial institutions and from providing services such as electronic banking and foreign exchange transactions.

Banks will have more freedom depending on how much capital they hold, with the top tier of operations reserved for banks with over 30 trillion rupiah of capital.

BI said earlier this year that more than ten Indonesian banks did not meet its standards on financial health and corporate governance under the new ownership rules.

“There is a fundamental change in the nation’s banking structure. We will regulate this in the future where business activities and branches will be closely linked to core capital,” said Nasution. ($1 = 9627.5 rupiah)