New
prudential authorities
Arisyi Raz ; A
graduate of the University of Manchester, UK
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JAKARTA
POST, 26 Maret 2014
The year
2014 has been an important one for Indonesia’s financial system. On Jan. 1
Bank Indonesia (BI), the central bank, transferred its banking supervisory
role to the Financial Services Authority (OJK).
Both of
these institutions have been given new mandates: To maintain the country’s
financial system stability through the implementation of prudential policies,
which consist of macro-prudential and micro-prudential policies. After the
hand over, Bank Indonesia, which is already charged with price stability, has
been given a mandate to take charge of macro-prudential policy. The OJK,
meanwhile, is in charge of micro-prudential policy and will focus on
individual financial institutions.
According
to the Bank for International Settlements, the distinction between macro- and
micro-prudential regimes is best drawn in terms of the policy objective and
of the conception of the processes influencing economic outcomes.
Simply
put, macro-prudential policy aims at limiting the “systemic risk” or the
costs to the economy from financial distress. On the other hand, micro-prudential
policy works toward minimizing the possibility of failure of individual
institutions, which is often referred to as limiting “idiosyncratic risk”.
In terms
of conceptions of the mechanisms affecting the economy, a macro-prudential
regime is viewed as “endogenous” since it views the system outcome to be
determined by the collective behavior of individual institutions. Meanwhile,
a micro-prudential regime views those outcomes as related to individual firms
and is “exogenous”.
In terms
of policy applications, theoretically, macro-prudential and micro-prudential
policies should be complimentary and reinforce each other in achieving their
respective policy objectives.
For
instance, sound individual institutions contribute to system-wide financial stability,
while a stable system with minimized systemic risk influences the soundness
of individual institutions.
However,
a paper by the International Monetary Fund (IMF) in 2013 also notes that
conflicts may occur in certain situations due to different policy
applications and overlapping policy mandates. By nature, macro-prudential
policies are usually counter-cyclical, while micro-prudential policies are
pro-cyclical.
Hence,
when the financial system is under pressure, micro-prudential policy usually raises
its standards to anticipate the shock, while macro-prudential policy tends to
loosen its policy, thus increasing the tensions between the two policy
regimes.
Even
though tensions may arise during a downturn phase or at crucial turning
points, the IMF suggests that these can be prevented or, at least, minimized,
by conducting information sharing, inter-institution dialogue and joint-risk
analysis between macro- and micro-prudential authorities.
In
addition, the IMF also recommends both authorities form a jointly coordinated
strategy that can be communicated to the market and the public to enhance
understanding and policy transparency.
Fortunately,
prudential authorities, i.e. BI and the OJK, and the government have realized
the importance of establishing close communications to reduce the possibility
of differences of opinion between the two institutions.
One
notable example is the establishment of the Financial System Stability
Coordination Forum (FKSSK). This forum consists of the Finance Ministry, BI,
the OJK and the Deposit Insurance Corporation (LPS), which are in charge of
fiscal policy; monetary and macro-prudential policy; micro-prudential policy;
and deposit insurance respectively.
This
forum consists of multi-level meetings held regularly, whether monthly or
quarterly and discusses the country’s economic resilience, including
financial-system stability.
In
addition, both authorities also have data and information sharing that is
easily accessible to avoid data lags and to support the efficiency of policy
implementation.
These
examples show that appropriate measures have been taken by macro- and
micro-prudential authorities in Indonesia in order to minimize the tensions
between the authorities and, accordingly, achieve their respective policy
objectives.
However,
numerous challenges still exist, particularly due to the dynamics and the
transforming financial system. Therefore, tensions between the two
authorities can be kept to a minimum if they take a flexible approach toward
institutional arrangements. In addition, both authorities should exploit
policy complementarities through arrangements in order to create productive
collaboration between them.
In
short, BI and the OJK have followed contemporary global financial policy
trends through the establishment of prudential regimes in order to capture
the dynamics of the latest financial system characteristics. In addition, in
terms of implementation and policy coordination, both authorities have also
followed the available standards in order to optimize policy efficiency.
Nevertheless,
since prudential policies are relatively new, there is still a lot to learn
and thus many challenges have to be overcome. Therefore, policy flexibility
is necessary to keep up with the evolving characteristics of the financial
system. ●
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