Efficient Capital Markets and Portfolio Investment

Banks continue to dominate Indonesia’s financial sector, holding an estimated 80 percent of the assets in the financial system. The top 3 state-owned commercial banks hold about one-third of banking sector assets and the top 15 banks hold about 70 percent ot total banking assets. The government has encouraged development of Islamic banking, though Islamic banks contain less than five percent of total banking assets. Several conventional banks have also opened Islamic banks. Non-bank financial institutions (NBFIs) remain underdeveloped, accounting for less than 10 percent of GDP. A 2007 World Bank report on NBFIs found domestic retail investor accounts in the stock market barely reached 100,000 and only 250,000 persons held mutual funds.

The Indonesia Stock Exchange (IDX) resulted from the 2007 merger of the Jakarta and Surabaya Stock Exchanges (see idx.co.id for more information). As of end-2010, IDX had 420 listed companies. There were 23 new listings in 2010. The Jakarta Composite Index (JCI) is a key measure of securities trading on the IDX. The JCI rose by 46 percent in 2010, after rising by more than 87 percent in 2009, and declining by 50.6 percent in 2008. In 2010, the Indonesian stock market was the best performing market in Asia. Stock market capitalization rose by over 60 percent in 2010, after rising by 46.7 percent in 2009, and declining by 46 percent in 2008.

As Indonesia recovered from the global financial crisis and received upgrades in its credit ratings, the pace of capital inflows increased in 2010, Bank Indonesia launched a range of policies aimed at managing liquidity and capital inflows and strengthening financial system stability, including a minimum one-month holding period of Bank Indonesia certificates, and restrictions on banks’ short-term external borrowing and capping at 20% of capital the net open position holding limit of foreign exchange by banks.

In early October 2008, in the midst of financial markets turmoil, the IDX halted trading for two and one-half days. In late 2008, the IDX also temporarily banned short selling and implemented asymmetrical daily trading limits (the latter measure was subsequently rescinded). In October 2008, Bapepam-LK, the Capital Markets and Financial Institutions Supervisory Agency, issued a regulation easing conditions on the buyback of shares of publicly listed companies during market crisis conditions. This regulation (No. X1.B.3) provided for the authorization of share buybacks of up to 20 percent of total issued and paid up capital without prior approval from a general meeting of shareholders.

The bond market remains dominated by government-issued debt, accounting for about 85 percent of the bond market. The government of Indonesia has made significant progress in building a strong foundation for its government bonds market. As of end 2010, the GOI had Rp 641.515 trillion of tradable, domestic, rupiah-denominated and US$18.1 billion of international, foreign-currency denominated sovereign bonds outstanding. Foreign investors held over 30 percent of Indonesia’s government bonds as of end-December 2010, up from 18.44 percent as of December 23, 2009. In August 2008, Indonesia issued its first sovereign Islamic bond (sukuk). The MOF implemented a primary dealer system for government securities in the first quarter of 2007, as per GOI’s July 2006 Financial Sector reform package recommendation. In April 2008, the government addressed differences in the treatment of tax withholding on discounts of treasury bills and state bonds when it issued regulation 27/2008. The regulation provides for the same method of tax withholding, with the transfer of treasury bills at a discount from one party to another, other than by specified parties, subject to tax withholding.

In 2010, firms issued new corporate bonds in the amount Rp.95.671 trillion. Major issuers include financial institutions (banks and finance companies) and infrastructure, utility and transportation firms. Total nominal listed bonds was Rp.114.817 trillion. Domestic leasing funds and insurance funds hold a significant portion of corporate bonds. The secondary market is thin with low turnover ratios and relatively high bid-ask spreads. Some corporate bonds from Indonesia’s largest companies are dollar denominated.

The Capital Markets Supervisory Agency (BAPEPAM) and Bank Indonesia established Pefindo, Indonesia’s largest rating agency, in 1994. Pefindo is a private limited liability company owned by 96 domestic shareholders including pension funds, banks, insurers, securities companies and the Indonesia Stock Exchange. Pefindo is an affiliate of Standard and Poor’s and adapts Standard and Poor’s methodology in its rating process. Pefindo has begun to incorporate good governance as a sub-element of its rating methodology. Moodys currently covers Indonesia from its Singapore office. Fitch Ratings opened an office in Jakarta in mid-2006 and is publishing assessments of credit quality on a variety of Indonesian institutions.

Foreign firms generally enjoy good access to the Indonesian securities market. A deregulation package in1988 opened banking, securities and insurance to foreign investment. In line with its commitments under the WTO’s Financial Services Agreement, the government equalized the capital requirements for domestic and foreign insurers. It amended the banking law in 1998 and removed restrictions on foreign bank branches outside Jakarta. In 1997, MOF lifted the 49 percent restriction on foreign purchases of shares in non-bank listed firms. In 1998, MOF removed discriminatory capital requirements on foreign securities. BI, the central bank, licenses banks and regulates banking activity. The Capital Market and Financial Institutions Supervisory Agency (Bapepam-LK) licenses new securities and insurance ventures, and regulates mutual funds and capital markets.

The Indonesian banking system is considered sound. The IMF Financial System Stability Assessment (August 12, 2010) noted that banking fundamentals have improved, with most Indonesian banks reporting high capital, comfortable levels of liquidity and solid profitability. BI issued a ruling in 1999 allowing 99 percent foreign ownership of local banks. Such banks are allowed to designate foreigners as members of the board of directors and commissioners, but at least one member of the executive board must be Indonesian. In subsequent years, foreign investors bought large domestic banks such as Bank Central Asia and Bank Danamon. In addition, foreign banks may now open branches in Indonesia, but the government extends this privilege only to the world’s 200 largest banks (in terms of assets) with minimum credit ratings of A from either U.S.-based credit rating agencies Standard & Poor’s or Moody’s. At the end of 2010, 47 of Indonesia’s 121 banks were under the ownership of foreign investors.

An October 2006 BI regulation requires “controlling” shareholders of more than one bank (defined as ownership of 25 percent or above, or if below 25 percent where there is direct or indirect control in the bank operations) to comply with a “single presence
policy,” via merger, divestment or through the use of an Indonesian financial holding company. The policy is not applicable to locally incorporated foreign-owned banks, or to JV banks, or to shareholders having a stake at two banks where one is Syariah-based. BI will give leniency for “complex” situations, apparently aimed at state-owned banks, if it is done in a way that is “objective, transparent, and acceptable for stakeholders”.

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