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Abstract

The study was conducted with the aim of examining whether Regional Development Banks (RDBs) can maintain their independence in performance when political relationships exist between these GLCs and the government as the owner. Data for the study was obtained directly from the official websites of 26 RDBs from the year 2013 to 2016. The collected data was analyzed quantitatively using the Generalized Least Square (GLS) method, The results show that political connections have no effect on the RDBs performance. This finding is consistent with our previous research on RDBs whcih suggest that even though RDBs are government-owned banks, the operations of RDBs remain independent and professional.
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DO POLITICAL CONNECTIONS AFFECT THE
PERFORMANCE OF INDONESIAN REGIONAL
DEVELOPMENT BANKS?
Donal Devi Amdanata1
Noorhayati Mansor2*
1 Sekolah Tinggi Ilmu Ekonomi Riau, Pekanbaru, Indonesia. Email: donaldev.mec@gmail.com
2 Universiti Sultan Zainal Abidin, Terengganu, Malaysia. Email: nhayatimansor@unisza.edu.my
*Corresponding author
Accepted date: 12 March 2018 Published date: 15 July 2018
To cite this document: Amdanata, D. D., & Mansor, N. (2018). Do Political Connections
Affect the Performance of Indonesian Regional Development Banks? International Journal of
Accounting, Finance and Business (IJAFB), 3(12), 109 - 118.
__________________________________________________________________________________________
Abstract: This study was conducted with the aim of examining whether Regional Development
Banks (RDBs) in Indonesia which fall under the category as Government-Linked Companies
(GLCs) can maintain their independence in performance when political relationships exist
between these GLCs and the government as the owner. Data for the study was obtained directly
from the official websites of 26 RDBs from the year 2013 to 2016. The collected data was
analyzed quantitatively using the Generalized Least Square (GLS) method. The results show
that political connections have no effect on the RDBs performance. This finding is consistent
with our previous research on RDBs which suggests that even though RDBs are government-
owned banks, the operations of RDBs remain independent and professional.
Keywords: Regional Development Bank, Political Connections
__________________________________________________________________________________________
Introduction
Government ownership of companies is always a dynamic issue and subject to political and
business criticisms. Thus, the topic provides a room for research study. Many researchers have
examined the theme of government ownership in businesses. Among others, research by Lau
& Tong (2008), Janang, Suhaimi, & Salamudin (2015) and Ting & Lean (2015) examine state-
owned enterprises in Malaysia. Mak & Li (2001), Rodan (2004) and Ang & Ding (2006)
research this issue in Singapore while Zou & Adams (2008) and Yen (2013) explore the topic
in China. In Indonesia, Buchory (2014, 2016) and Harsanti, Ghozali, & Chariri (2016) also
investigate the issue of government ownership. Interestingly, the use of the term government-
owned companies also varies. For example, Malaysia and Singapore more often refer to
government-owned companies as Government-Linked Companies (GLC). Indonesia and some
other Asian countries, on the other hand, call it State-Owned Enterprises (SOEs) and in the
United States the term Government-Sponsored Enterprises (GSEs) is commonly used.
Volume: 3 Issues: 12 [June, 2018] pp. 109 - 118]
International Journal of Accounting, Finance and Business
eISSN: 0128-1844
Journal website: www.ijafb.com
110
Most studies conducted on GLCs focus on performance (e.g., Ab Razak, Ahmad, & Aliahmed
Jober, 2011; Ang & Ding, 2006; Yeng Wai Lau, 2013). The specific group of research focusing
on GLCs suggests a level of curiosity among researchers in the uniqueness of the GLCs and
their operations. In fact, according to Huang, Xie, Li, & Reddy (2016), there are at least three
weaknesses of GLCs, namely (i) the small opportunity to compete widely; (ii) the rapid
development of markets; and (iii) competition with similar companies that can reduce the
company's profit. Also, Huang et al. (2016) reveals the shortfalls of government ownerships in
these companies. They also suggest that there are opportunities that can be utilized by the GLCs
and one of them is the broad political connection.
Unique to Indonesia, government-owned enterprises also include the banking sector and there
are several objectives for setting-up government-owned banks. Based on Law No. 19 year 2003
on State-Owned Enterprises, there are three major purposes of establishing state-owned
enterprises. Firstly, to contribute to the development of the national economy and increase state
revenues. Secondly, to become a pioneer of business activities that cannot be left to the private
sector, and thirdly, to actively provide guidance and assistance to small and medium
entrepreneurs. At present, 116 banks are operating in Indonesia and 30 of them are government-
owned. These 30 government-banks can be further categorized as state-owned banks (4) and
local government banks (26). They are often referred to as Regional Development Bank (RDB).
RDB in Indonesia has attracted a lot of interest in recent times. The local government
established RDB for regional economic development, and on average has been more than 40
years old. The long-existence of RDBs suggests that these RDBs have had a long experience in
the banking business. Almost all local government funds are placed in the RDBs and uniquely,
every province in Indonesia has its own RDB. A study conducted by Amdanata & Mansor
(2017) provides evidence that local government ownership of RDBs has no significant effect
on the RDBs’ performance. The finding also suggests that the RDBs have performed the
banking activities professionally. Agustin (2016) also reports superior performance of RDBs in
Indonesia based on comparisons of financial performance between sharia bank units of national
banks and the RDBs’ financial performance.
The findings of Agustin (2016) highlight an interesting point. Even though the RDBs are
directly controlled by local governments, in addition to being regulated by the Central Bank of
Indonesia (CBI) and the Indonesian Financial Services Authority (IFSA), the RDBs’
performance was better than the sharia units of the private banks. Indirectly, according to
Agustin (2016), the local government has strong influence on the performance of RDBs.
Consistent with Agustin (2016), Abdallah & Ismail (2017) also document that the positive
effect of corporate governance on performance is the highest when the majority of shareholders
are government or local corporations. The findings of Agustin and Abdallah contradict those
of Pina, Torres, & Bachiller (2011) who report that the non-ownership structure of savings
banks, the lack of best practices of corporate governance mechanisms, and political presence
have weakened the RDBs. Similarly, Shen & Lin (2012) conclude that government intervention
also results in poor performance of the RDBs.
To date, many studies on the effect of political connections on business performance conclude
that political connections benefit firms by providing business opportunities, preferential access
to financing, lower tax rates, preferential access to government funding, bailout possibilities
and improved corporate performance (e.g., Chen, Luo, & Li, 2014; Claessens, Feijen, &
111
Laeven, 2008; Ferguson & Voth, 2008; Fisman, 2001; Wu, Wu, Zhou, & Wu, 2012). However,
the issue of political connections has not been researched on GLCs involved in the banking
sector.
Political and Corporate Conditions in Indonesia
After the economic crisis, Indonesia has made many improvements in various sectors to keep
up with economic growth and development in order to compete effectively in the global
economy. Laws, politics, and economics are the sectors that are of primary concerns to the
government for reform. Many regulations were put in place to properly regulate these three
sectors since they are interconnected. All parties are aware that the economic crisis that hit
Indonesia in 1997 was caused by the weakness of corporate governance, added with the absence
of legal and political certainty of corruption, collusion and nepotism practices that have taken
root in Indonesia. The valuable lesson then becomes the background for Indonesia to implement
various regulations so that the economic crisis will not repeat itself, and if repeated, Indonesia
is ready to properly handle it.
It is possible that these government reforms may have contributed to local leaders being given
opportunities which allow them to work for personal gain. By embracing the system of many
parties and the provision of special autonomy, not all provincial leaders in Indonesia belong to
the same party as the winning party in the national election. This condition sometimes causes
local leaders to attempt to maintain their power. Furthermore, being involved in politics in
Indonesia can be very costly. As such local leaders could be forced to use their political power
and influence in the operations of companies operating in their areas. In addition to private
companies, of course, the easy target would be companies owned by the local governments.
According to La Porta, Lopez-De-Silanes, & Shleifer (2002) politicians use the existence of
state-owned banks for their purposes. The magnitude of influence and ownership of this
regional heads on the local government-owned companies may negatively affect their
professionalism. As a result, these companies may avoid political connections with the
authorities or with the government.
Literature Review
Political Connections
Relying on Resource-Dependence Theory (RDT), political connections are among the things
that influence the company. Hillman, Withers, & Collins (2009) in their review suggests that
although the environmental idea created may be the most overlooked idea by RDT field
researchers, research in this field supports the following: (a) political action correlates with
environmental dependency faced by companies, (b) companies facing the same environment
tend to choose the same forms of political behavior to manage them, and (c) increased
performance benefits for firms that create relationships with the political environment.
Indirectly they claim that the action of RDT supports political action as an effort of company
to improve company performance.
Previous studies describe political connections differently. For example, Faccio, M., Masulis,
R. W., & McConnell (2006) mentions the political connection as a special relationship between
company officials and politicians. On the other hand Fisman (2001) states that the political
connection is the proximity of employers and companies to the regime and the family in power.
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Claessens et al. (2008) include as political connections when companies provide certain
facilities to government employees. According to Y. S. Chen, Shen, & Lin (2014) describe
political relations as a relationship between company officials and politicians. They also state
that the political connections between one country and another is not the same as the political
connection of individuals. Ismail, Kamarudin, & Othman (2012) refers to political connections
as when former government officials become high-ranking government-owned companies.
In the present study, political relation is defined as when government officials or retired
government officials occupy high positions in government-owned companies. Many conditions
occur in Indonesia, when many officials or retired elected officials become commissioners in
the company. The role of the commissioner in determining the way the company in Indonesia
is regulated by Law No. 40 year 2007 on Persero and is very comprehensive. This condition
causes the position of the commissioner to be very significant. The government, as a party
providing capital, entrusted the status of this commissioner to government officials or retired
government officials. Therefore, having a political connection with the government has its
advantages for companies to the extent that it is difficult to distinguish between the government
and politics.
Regional Development Bank
Agency relationship is defined as a contract in which one or more persons as owners or
shareholders or owners, appoint another person to do some work on behalf of the owner. Those
at this point are always referred to as agents or management. A work that is maximized is to
include the delegation of authority to make decisions. In this case the management is expected
by the owner to be able to optimize the existing resources in the company to the maximum to
gain profit.
If both parties maximize their role, it is reasonable that management will not always act in the
best interest of the owner. This is very reasonable because in general the owners have long term
welfare motives, otherwise management is more short term so that sometimes they tend to
maximize profit for the short term by ignoring the sustainability of profit in the long term. To
limit or reduce the likelihood of such discrepancies, the owner may determine the appropriate
incentives for management by paying a monitoring fee in the form of a salary. With the
monitoring cost management will always maximize the welfare of the owner, although
management decisions in practice will be different from the wishes of the owner (Jensen &
Meckling, 1976).
In relation to political connection, RDB has a vague, theoretical clash of theories between the
theory agency and RDT. If it refers to the agency theory, then the owner of the political power
of the government is the owner of the RDB. However, if viewed from the side of RDT, the
government or political ruler is an environment that must be in condition to be able to improve
company performance. but with current RDB positions, it is precisely the RDB that is under
the pressure of the owner or political power.
Based on Law No.13 year 1962 on Basic Provisions of Regional Development Banks, the main
objective of RDB is to provide financing for the implementation of regional development
efforts to succeed national development. The Act also states that the implementation of such
businesses involves lending for investment purposes, expansion, and renewal of regional
development projects in the region concerned.
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As locally government-owned banks RDBs have an advantage in raising public funds,
especially from the local governments where the RDB was established. Almost every local
government places government funds in RDB. One of the objectives of RDB is to finance the
development of provincial and district governments. However, the provincial governments
have limitations in loan financing and collections of loan payments. The governments can only
raise taxes and restricts the community. Also, the government can not engage in government to
business activities, so that the usual agreements of business to business cannot be done.
Therefore, the RDBs as intermediary institutions are needed to support the provincial
government in in conducting fund-raising activities and fund disbursement.
Local researchers in Indonesia have reviewed the RDB. Call it Suryanto (2015), Buchory (2014,
2016) who examines the RDB. There are also several studies of efficiency-related RDBs as
performed by Abidin & Endri (2009); and Sutanto (2015) and all of their research has shown
positive results. However, the study only revolves around the influence of financial ratios on
RDB performance, not to mention external problems that actually have an effect on RDB
performance.
However, with their status as government-owned banks and the dynamic political conditions of
each region, the operational activities and objectives of the RDBs are at risk of being subject to
political influence and power which eventually may disrupt the efforts of RDBs to achieve their
goals.
Pina et al. (2016) conducted a study of 45 savings banks in Spain and report that banks which
are influenced by politicians produce low performance. According to them this is due to
politicians as holders of power having a strong influence on the policies of companies under
the control of the government. Similarly, Sapienza (2004) also supports the finding and
concludes that politicians have a strong influence on government-owned companies.
Accordingly, the hypothesis in this study is:
H1 : Political connections influence the performance of Regional Development Banks in
Indonesia.
Methodology and Data
The sample of this research consists of 26 RDBs in Indonesia. The data used are bank data from
the years 2013 to 2016 or a total of 104 bank years. The bank data was sourced from the Annual
Reports of RDBs and downloaded from the official website of each RDB. The study adopted
and modified the research model from Agustin (2016); Bliss & Gul (2012); Y. Chen et al.
(2014). Chen and Agustin used the Return on Assets (ROA) of the company in measuring the
performance of the company's financial. In this study ROA represents an independent variable.
The dependent variable is political connection (POLCON) which is measured by comparing
the number of government-linked commissioners, i.e., senior government officer (SGO);
former SGO and politician.
To test if political connection influenced bank performance the natural logarithms of board of
directors (BOARDSIZE), natural logarithms of the asset (ASSETS), leverage (LEV),
Nonperforming Loan (NPL) and Loan to Deposit Ratio (LDR) were used as panel data with
114
pooled ordinary least square (OLS), random effect and fixed effect analysis using the following
model:
      
   
 
Where:
PERF = Profit before tax and interest on outstanding loans;
POLCON = Commissioners are Senior Government Officers or retired Senior
Government Officicers or politicians. This variable using the dummy
variable; 1 refers to if the Commissioners are Senior Government
Officers and 0 if not.
AGE = Age of the RDB
ASSET = Total assets of the company
BOARDSIZE = Size of Directors
LEV = Leverage
NPL = Non Performing Loan
LDR = Loan to Deposit Ratio
Results and Discussion
Table 1 shows the results of the regression model. After doing Hausman Test, the Random
Effect model was performed and the analysis suggests that POLCON has no significant effect
on the RDBs performance. The Fixed Effect model also produces similar finding. Durbin-
Watson Statistic shows a value of 1.976434 which is below 2 and thus, indicating that there is
no autocorrelation problem.
Based on the output in Table 1, the Random Effects model results in the adjusted R-square
value of 0.1073 while the Fixed Effect model shows the value of 0.6238 for the adjusted R-
square. All variables of AGE, ASSETS, BOARDSIZE, LDR and LEV show no significant
effect on the RDBs performance except for the NPL (p=0.0004 < 0.01). Together, all of the
independent variables have a significant influence on the performance of the RDBs at the 10
per cent confidence below (p = 0.0783). Although none of the independent variables have a
significant influence on the RDBs’ performance other than the NPL, the F-test result (p =
0.011472 < 0.05) suggests that simultaneously the independent variables affect the performance
of the RDBs at a degree of confidence level below 5 per cent.
The regression output provides evidence that the POLCON coefficient on RDB performance is
(-0.12). This result indicates that POLCON has a negative but insignificant effect on the RDBs
performance (p= 0.4649 > 0.05) and thus, the hypothesis is rejected. The finding indicates that
RDBs in Indonesia operate professionally since there is no evidence of significant political
influence on the RDBs performance. These findings are similar to studies conducted by
Amdanata & Mansor (2017); Berkman & Galpoththage (2016); Faccio (2010); and Saeed,
Belghitar, & Clark (2016). The result, however, is inconsistent with the conclusion by
Bencheikh & Taktak (2017); and Coulomb & Sangnier (2014).
115
Table 1: Regression Result
*Sample: 2013 2016; Periods included: 4; Cross-sections included: 26; Total panel (balanced) observations: 1
Conclusion
Politics in Indonesia is unique since election winners in each province can be different from
other regions which make the political map in each area also different. However, the pattern of
interactions between the RDBs and political winners is almost the same, that is, local leaders
tend to have a strong influence in controlling the RDBs, including in the selection of the
president or director. This suggests that potential RDB owners and holders of political power
in the regions will make use of the RDB for enormous political gain. As with putting a person
in the company stewardship, this is of course already violate the principles of corporate
governance that has been running in Indonesia
However, seeing the bad experiences faced by Indonesia when hit by the economic crisis caused
the government of the Republic to make many regulations related to the banking industry, not
least the RDBs. The central government, such as realizing that the cost of politics in Indonesia
is very expensive, sooner or later will make the local political authorities will glance at the RDB
for political purposes.
Therefore, the government has set up many barries to protect the RDB from political interests.
At this time, banks in Indonesia have many regulations that prevent them from deviating from
the main task. Strict supervisions are conducted by Central Bank of Indonesia since 2014 and
furthermore banks in Indonesia are also overseen by the Indonesian Financial Services
Variable*
Fixed Effects
Random Effects
Coefficient
Std.
Error
t-Statistic
Prob.
Coefficient
Std. Error
t-Statistic
Prob.
C
8.890115
4.582923
1.939835
0.0564
3.868450
2.173779
1.779597
0.0783
POLCON
-0.133123
0.193959
-0.686348
0.4947
-0.125912
0.171592
-0.733785
0.4649
AGE
-0.050536
0.114773
-0.440309
0.6611
-0.013288
0.035857
-0.370595
0.7118
lnASSETS
-0.355938
0.813064
-0.437773
0.6629
-0.014532
0.210376
-0.069076
0.9451
lnBOARDSIZE
0.130600
0.563423
0.231798
0.8174
-0.078703
0.509978
-0.154327
0.8777
LDR
0.005327
0.009631
0.553042
0.5820
0.006419
0.007675
0.836326
0.4050
LEV
-0.000762
0.029482
-0.025848
0.9795
0.018890
0.021084
0.895931
0.3725
asinNPL
-0.073814
0.038337
-1.925386
0.0582
-0.109883
0.029665
-3.704190
0.0004
Effects Specification
Cross-section fixed (dummy variables)
Weighted Statistics
R2
0.740693
0.168058
Adjusted R2
0.623822
0.107395
S.E. of regression
0.617814
0.627422
Sum squared resid
27.10031
37.79121
Log likelihood
-77.63764
F-statistic
6.337705
2.770372
Prob(F-statistic)
0.000000
0.011472
Mean dependent var
2.949519
1.314337
S.D. dependent var
1.007306
0.664095
Durbin-Watson stat
2.751495
1.976434
Hausman (P > 0.05)
0.188100
116
Authority. In addition, the Indonesian government has also issued a special Corporate
Governance Guideline for the banking sector. These various regulations and regulatory bodies
cause banks to run the banking operations professionally. Local governments as owners can
provide wide economic access to the RDBs and also have direct access to control the RDBs
and maintain the required level of professionalism in running these local government-owned
companies
Amdanata & Mansor (2017) has investigated whether RDB as a bank owned by local
government utilizes local government facilities to improve their performance. In other words,
the RDB competes with other banks in the area by utilizing their status as state-owned banks.
The results show that the relationship is negative, meaning that RDB has no competitive
advantage to the local government. While in this study, the emphasis of research is whether
local government as the owner utilizing RDB for political purposes, was also negative. These
results indicate that RDB in Indonesia has run the regulations and apply the principles of
corporate governance with a consistent.
For further research, researchers can try to compare with other government-owned companies
engaged in many fields, to find out whether the GLCs have been professional and run the
principles of good corporate governance properly.
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