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Risk - Based Capital Regulation and Indonesian Banking Fragility: Impact of Competition and Asymmetric Credit Supply

Risk - Based Capital Regulation and Indonesian Banking Fragility:

Impact of Competition and Asymmetric Credit Supply

Wahyoe Soedarmono:
University of Limoges, Lape Research Center, France

A. Prasetyantoko:

Atma Jaya Catholic University, Indonesia


this paper examines the different  implikation of risk-based capital regulation for minimizing risk level in Indonesian banking industry under different  degree of  competition (market structure). Monthly accounting data from 68 commercial banks which operate geographically in Indonesia were used in this study. Moreover, macroeconomic data from Indonesian Banking Statistics were used to capture the credit market imperfection which may influence competition. All data were provided by The Central Bank Indonesia (BI), and cover the opservation periods from January 2005 to December 2007. Pooled cross-section regression was used in the analysis. The results show that in the low degree of competition, capital regulation reduces bank risk for overall sample.  This result is robust for different  risk measure. In the high degree of competition, the analysis  cannot  find clear relationship between capital regulation and bank risk for overall sample. Moreover, by splitting the sample into two groups respect to bank size, i.e big banks and small banks, this study cannot  find any  relationship between capital regulation and risk for big  banks in the low  degree of competition. Contrary, in the high  degree of competition, capital regulation and risk are positively  related  for big banks. However , this study  failed to find robustness of the result  for the big bank. For small banks,  there are  robust negative relationship  between capital regulation and risk under  the low degree  of competition. In the high  degree of copetition, capital regulation and risk of small banks is positively  related but it is not robust. These finding  are sufficient  to conclude that capital  regulation  performs differently in the different  market structure. More precisely,  capital regulation performs well to reduce  small bank‘s risk ini the concentrated market. Meanwhile, there should be another  prudential  regulations for big banks in Indonesia, since capital regulation is ineffective to reduce risk.