Framework of Financial Stability - Bank Sentral Republik Indonesia
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August 26, 2019
FRAMEWORK OF FINANCIAL STABILITY
 
Although Bank Indonesia has responsibility for safeguarding financial stability, its powers do not cover the entire scope of the financial system. Financial stability, however, operates as a system and must therefore be managed as an integral whole. To safeguard financial system stability within its full scope, a framework for collaboration with the relevant agencies - the government and the financial services authorities - is essential. This is to avoid duplications and overlapping of interests among these different institutions. The framework for financial system stability within the powers of Bank Indonesia can be described briefly as follows:
 
 
Mission and Goal
A mission and goal provides clear foundation for the institutions involved in monitoring financial system stability. In many countries, the mission of safeguarding financial stability is performed by the central bank (e.g. the UK, Australia, Korea and Malaysia). In Indonesia, this mission has been included among the principal tasks of Bank Indonesia, i.e. to achieve and maintain stability in the rupiah through monetary stability supported by financial stability. In practice, therefore, the function of safeguarding monetary stability is an integral part of preserving financial system stability.
 
Strategy
To maintain financial system stability, there must be a monitoring strategy and solutions for dealing with crisis. The strategy must address the issues of coordination and cooperation, monitoring, crisis prevention and crisis management.
 
1. Coordination and cooperation
Safeguarding financial system stability is not only a task for Bank Indonesia, but also involves other institutional stakeholders. For this reason, the various instruments for financial system stability are determined not only by the central bank, but by other authorities. Coordination among these institutions is essential to manage information and maintain policy effectiveness. This is to ensure that policies issued by institutional stakeholders do not give rise to conflict and negative impact. According to the experience of other countries, difficulties in coordination arise if the bank supervision and regulatory functions are separated from the central bank. However, should this separation be unavoidable, coordination can be arranged through the Financial System Stability Forum. The members of this forum are appointed from the central bank (Bank Indonesia), the financial system supervisory authority and the government. In performing its functions, the forum has specific legal powers.
 
2. Monitoring
Monitoring financial stability is essential to measuring the potential risks that may arise. Most important are risks of systemic disturbances or events that could lead to crisis. This early detection enables the central bank and the government to adopt policies capable of preventing financial instability that would otherwise bring down the economy. The monitoring is focused around microprudential indicators and macroeconomic indicators. The two types of indicators complement each other as a form of action and reaction within the economy and the financial system. Monitoring of microprudential indicators is targeted at the micro condition of financial institutions. This monitoring yields information on potential for liquidity risk, market risk, credit risk and profitability of financial institutions, which is used to measure financial system resilience. Monitoring of macroeconomic indicators focuses on domestic and international macroeconomic conditions that have significant bearing on financial stability. The monitoring results are then analysed to develop predictions of financial system stability.
​Microprudential Indicators
(Agregate)
​Macroeconomic Indicators
Capital Adequacy
  • Aggregate capital ratio
Asset Quality
- For creditors
  • Sectoral consentration of credit
  • Foreign capital loans
  • Loan to related parties, bad debts (NPLs) and loan
    loss reserves
- For debtors
  • DER (debt to equity), corporate profit
Sound Financial System Management
  • Growth in number of financial institutions, etc
Revenues and Profit
  • ROA, ROE, and cost to earning ratio
Liquidity
  • Central bank loans to financial institutions, LDR,
asset and liabilities maturity profile
Sensitivity to Market Risk
  • Exchange rate risk, interest rates and share prices
Market-Based Indicators
  • Market prices for financial instruments, credit rating,
    sovereign yield spread, etc.​
Economic Growth
  • Aggregate growth rate
  • Economic sectors in decline
BOP
  • Current account deficit
  • Adequacy of international reserves
  • Foreign debt (including maturity profile)
  • Terms of trade
  • Composition and tenor of capital flows
Inflation
  • Volatility of inflation
Interest Rates and Exchange Rates
  • Interest rate and exchange rate volatility
  • Domestic interest rates
  • Long-term exchange rate stability
  • Exchange rate guarantee
Contagion Effect
  • Trade spillover
  • Financial market correlation
Other Factors
  • Focused direction in investment and lending
  • Government funds in the banking system
  • Matured debt​
 
3. Crisis Prevention 
Crisis prevention takes place by preventing instability in the financial system. Various policy actions are available for dealing with this instability. These measures have been adopted from the standards and regulations issued by international institutions, such as the International Monetary Fund (IMF) and Bank for International Settlements (BIS), and also professional associations.
 
 
4. Crisis management
Despite the availability of many different approaches to crisis prevention, there is no guarantee that a crisis will not happen again. Therefore, it is essential to have a crisis management process in place. This process sets out the procedures for crisis resolution and specifies the roles and responsibilities of the related institutions. When a bank is distressed, the following actions become necessary:
  • The competent institution must determine whether the distressed bank could trigger systemic impact.
  • The rescue process must be decided in a legal action, as it will involve the use of public funds.
  • The roles of Bank Indonesia, the supervisory authority and the government must be clearly specified
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