Bank consolidation and financial stability in Indonesia

Abstract

This paper extends prior literature on the impact of bank market power as a proxy of bank consolidation on financial stability using a single country setting. From a sample of Indonesian commercial banks over the 2010–2015 time span, our empirical results show that higher bank market power is associated with lower insolvency risk and higher capital ratios, suggesting that bank consolidation is beneficial for financial system stability in general. A deeper analysis however reveals that higher market power is detrimental for financial stability in state-owned banks and small private-owned banks. This paper therefore suggests that strengthening market power in large private-owned banks, but encouraging competition in state-owned banks and small private-owned banks to reduce market power, could enhance financial stability.