Determinants of Bank Liquidity in Indonesia: Dynamic Panel Data Analysis

Abstract

Global monetary crisis has proven that the increase of banking liquidity risk followed by banking illiquidity barrier triggers the wide spreading crisis. The economic interdependency among countries causes the widespread global monetary crisis. Monetary crisis in a country always puts the banks in that country in liquidity difficulties, which eventually ends up in to the banks liquidation as a result of their incapability of overcoming the liquidity difficulties. A bank’s illiquidity can cause a contagion effect indicated with bank run against the other banks as the effect of public trust loss toward the banking sector. Basically, the main source of banking liquidity risk is the fragile bank products, which is shown with fund deposit period that is normally far shorter than the fund remittance period in form of credits or others. In a critical condition, the liquidity risk increases as a bank finds it more difficult to convert its assets into a liquid form to respond to its short-term obligations. This difficulty is mainly caused by decrease of the public purchasing power which generally leads to the decrease of the assets market price. The decrease of the assets market price in the crisis period can also be provoked by the banking assets conversion process into liquid ones, so that it causes the increase of asset offer on one side, while there is an asset decrease on the other side. To manage the liquidity risk and overcoming the bank liquidity difficulty, a bank should maintain its assets quality, increase its capital, efficiency and profitability as liquidity sources. As an intermediate institution, the bank liquidity is also determined by external factors, such as, interest rate, inflation, economic growth, and capital market development. This paper henceforth aims to test myriad variables which can determine the bank liquidity in Indonesia during the global monetary crisis period. This study analysis 20 banks which chosen on purposive sampling method by using dynamic panel analysis from Arellano and Bond (1991) and Arellano and Bover (1995), that are Difference GMM and System GMM, respectively. The study shows that there are some significant variables which capital, asset quality, profitability, funding, interest rate, inflation, and capital market development determine the banking liquidity in Indonesia.