Corporate Governance of Banks in Asia

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A Study of Indonesia, Republic of Korea, Malaysia, and Thailand

Sang-Woo Nam and Chee Soon Lum

Asian Development Bank Institute

Corporate

Governance of Banks in Asia

– Volume 1 –

A Study of Indonesia, Republic of Korea, Malaysia, and Thailand

Sang-Woo Nam and Chee Soon Lum

Asian Development Bank Institute

Banks in Asia

– Volume 1 –

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The views expressed herein do not necessarily reflect the views or position of the ADB Institute, its Advisory Council, Board of Directors or the governments they represent. The ADB Institute does not guarantee the accuracy of the data included and accepts no responsibility for any consequences arising from its use. The word “country” or other geographical names do not imply any judgment by the ADB Institute as to the legal or other status of any entity, including its borders.

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Executive Summary ...5 1. Survey of Banks’ Corporate Governance in Indonesia,

Republic of Korea, Malaysia, and Thailand... 11 Sang-Woo Nam and Chee Soon Lum

2. Corporate Governance of Banks in Indonesia ...85 Takuji Kameyama, Vita Diani Satiadhi, Antonius Alijoyo, and Elmar Bouma

3. Corporate Governance of Banks in Republic of Korea...167 Jae-Ha Park

4. Corporate Governance of Banks in Malaysia ...243 Chee Soon Lum and Philip T. N. Koh

5. Corporate Governance of Banks in Thailand...315 Piruna Polsiri and Yupana Wiwattanakantang

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search in the Asian Development Bank Institute (ADBI). This study follows an ADBI research project completed in 2004 with a publication, Corporate Governance in Asia: Recent Evidence from Indonesia, Republic of Korea, Malaysia, and Thailand. While basic corporate governance principles are to be shared by banking institutions as they are by non-fi nancial fi rms, bank governance has its own uniqueness and challenges. This is mainly due to the nature of banking services and the consequent supervision and fi nancial safety nets provided by the government.

While it is now widely recognized that all the Asian central banks have introduced regulatory reforms to encourage the development of good corporate governance policy in the banking institutions during the post-crisis period, not much is known about the success of these policy reforms. The primary focus of the study was to address the issue of corporate governance practices in the banking institutions of Indonesia, the Republic of Korea, Malaysia, and Thailand in the post-crisis period, 1998–2003. The two volumes in this study are based on four country studies by country consultants (volume one) and six theme papers mostly by fi eld consultants (volume two). The cover- age of the theme papers includes a review of the current issues in corporate governance of banks, board effectiveness, risk management procedures, the role of market discipline, compensation of bank CEOs and directors, and fi - nancial safety nets in these countries.

An important contribution of this study is the empirical results from questionnaire surveys on the boards of directors including the opinions of board members on board effectiveness, executive compensation, and risk management practices in the banking institutions in the four countries. These results provide useful insights into the observed behaviors of board members as well as the signifi cance of and progress in other aspects of bank governance in post-crisis Asia. In addition, the ADBI in collaboration with the country consultants collated factual information on the legal and regulatory environment relating to bank supervision and fi nancial safety nets, bank operations and ownership, composition and functions of the boards, and disclosure rules in the banking systems in the four countries. The questionnaire survey covers 63 banks: 26 in Indonesia, 14 in the Republic of Korea, 10 in Malay- sia, and 13 in Thailand.

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like to thank Professor Juro Teranishi, Director of the Center, for his strong support in organizing the seminars. The authors of the papers and other con- tributors and discussants at the seminar guaranteed the success of this study with their time, constructive discussions, and confi dence in the outcome. We thank all of them for their contributions.

We hope this study will provide an updated and broader perspective of the corporate governance mechanisms and practices of the banking institutions in post-crisis Asia.

Sang-Woo Nam

Asian Development Bank Institute March 2006

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Elmar Bouma

Forum for Corporate Governance in Indonesia Takuji Kameyama

UFJ Institute Indonesia Philip T. N. Koh

Senior Partner, Messrs. Mah-Kamiriyah & Philip Koh, Malaysia Chee Soon Lum

Capilano College, Canada Sang-Woo Nam

Asian Development Institute Jae-Ha Park

Korea Institute of Finance Piruna Polsiri

Dhurakijpundit University, Thailand Vita Diani Satiadhi

UFJ Institute Indonesia Yupana Wiwattanakantang

Center for Economic Institutions, Hitotsubashi University, Japan

List of Discussants

ADB Institute wishes to thank the discussants for their valuable comments and contributions on 10–11 June 2004 and 21–22 January 2005 at the two seminars on Corporate Governance of Banks in Asia, organized in collaboration with the Center for Economic Institutions, Hitotsubashi University in Tokyo.

Chaiyasit Anuchitworawong

Center for Economic Institutions, Hitotsubashi University Giovanni Ferri

University of Bari, Italy

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Development Bank of Japan Akiyoshi Horiuchi

Chuo University Peter McCawley

Dean, Asian Development Bank Institute Eiichi Michizoe

Tokyo Research International, Bank of Tokyo-Mitsubishi Andreas Moerke

German Institute for Japanese Studies Seki Obata

Graduate School of Business Administration, Keio University Masaya Sakuragawa

Department of Economics, Keio University Yuri Sato

Institute of Developing Economies (IDE-JETRO) Megumi Suto

Graduate School of Finance, Accounting and Law; Waseda University Kazunori ‘Icko’ Suzuki

Graduate School of International Accounting, Chuo University Juro Teranishi

Director, Center for Economic Institutions, Hitotsubashi University John Weiss

Research Director, Asian Development Bank Institute Jeong Koo Yeo

Korea Institute of Finance Naoyuki Yoshino

Department of Economicsc, Keio University

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importance of good corporate governance practices in the banking institutions, especially in the four countries hardest hit during the 1997 fi nancial crisis: Indonesia, the Republic of Korea, Malaysia, and Thailand. Obviously, these post-crisis policy and regulatory reforms were in response to the diag- nosis that the governance infrastructure in the banking system was not robust and had contributed substantially to the crisis. However, not much has been documented on the state of corporate governance in the Asian banks and the progress and success of the regulatory reforms in these countries during the post-crisis period.

This volume of our study addresses these issues and the chapters are drawn from the four country studies written by country consultants that were pre- sented at two seminars in Tokyo hosted by the Asian Development Bank Institute (ADBI) in collaboration with the Hitotsubashi University Center for Economic Institutions in June 2004 and January 2005. The country papers were written by Kameyama et al. for Indonesia, Park for the Republic of Korea, Lum and Koh for Malaysia, and Polsiri and Wiwattanakantang for Thailand. Since there is much diversity among the institutional, regulatory, and legal environments in these four countries, corporate governance has evolved quite differently in each of these countries; obviously the policy reforms and responses of each central bank and government have also shown some differences. These differences and diversity, together with the common strands in the four countries, as indicated in Nam and Lum, have made this study more interesting and fruitful in terms of useful lessons of experience from these post-crisis reforms.

A unique contribution of this volume is that it provides fi rst-hand evidence on the corporate governance structures of the banking institutions in these four countries. Based on the micro-level results of the ADBI questionnaire surveys of factual information about the board of directors and the regulatory and legal environment in which they operate, it is apparent that there is a catalogue of distinct characteristics in actual corporate practices and ownership/control structures in the Asian banking institutions. This evidence is also apparent in the results of the opinion survey of board members, where the observed behaviors and perceptions of the executive and independent directors converge as well as diverge in such important issues as confl icts of

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try studies in this volume is the importance of certain board characteristics that serve to enhance board effectiveness. The regulatory and behavioral aspects of such board characteristics include board accountability, overall responsibilities, composition, and the defi ning roles of the CEO/controlling owners and independent directors in board committees and related-party transactions. The country consultants have carefully brought these aspects to surface in this volume for our understanding of the complexities in board governance processes in these countries.

When analyzing the attributes of board characteristics, generalizations are not always the norm among these countries — there are usually distinct differences between the countries. For instance, virtually all board members in the countries studied believed that the board was mainly accountable fi rst to the shareholders and then to the depositors and creditors in terms of importance. Specifi cally, it appears that when making corporate decisions, the board was concerned more about the controlling shareholder than the minority shareholders and depositors as the most important persons they are responsible to. However, board members in Indonesian banks believed otherwise: that the board was mainly accountable to the depositors.

In order to discourage the infl uence of confl icts of interest on the behaviors of board members in the banking institutions, it should come as no surprise that the banking laws and regulations in these countries defi ned the role and responsibilities of the board of directors quite clearly. As pointed out in all four country studies, the perfunctory roles of the board members such as formulating, reviewing, and guiding corporate strategies and approving and reviewing risk management and the internal control system are generally well performed by the boards in the banking institutions.

The degree of board involvement in overseeing and implementing major corporate policies may vary across countries. For example, banks in Thai- land are not specified by law to set performance objectives, approve and review annual budgets, or set key executive compensation and board remuneration. Boards in the Korean banks are not obliged by law to perform these functions or manage potential confl icts of interests of the controlling shareholders and the stakeholders. In contrast, the boards in Indonesia, Ma- laysia, and Thailand are specifi ed by their banking laws and regulations to

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and Republic of Korea believe that they are effective in the functions of selecting, monitoring, and replacing CEOs. A similar view is shared by board members in the case of reviewing CEO compensation, even though about 80 percent of the boards in Korean and Malaysian banks and around 65 percent of the boards in Indonesian and Thai banks perform this role regularly.

Average board sizes vary somewhat in these countries: 5.5 members in Indonesia, 9–10 in Republic of Korea and Malaysia, and 12 in Thailand.

This difference is partly due to the different rules on the minimum size of a board in each of the countries. However, board composition might have more signifi cant bearing than board size on the practice of good corporate governance in the banking institutions in these countries. Thus, a signifi cant regulatory reform introduced by the central banks or other fi nancial supervisory agencies in all four countries is the explicit defi nition of the role of independent directors and the emphasis on audit, nomination, and remuneration committees being served by a majority of independent directors.

It is now a norm that the appointments and selection of independent directors are subject to transparent written rules and are specifi ed by regulatory guidelines in all four countries. Not surprisingly, there are minimum requirements for the number of independent directors serving on the board and there are restrictions on the maximum number of boards on which a bank director can serve. These restrictions are aimed at mitigating confl ict of interest behavior in boards, which was identified as one of the contributing factors that weakened the governance mechanism in the banking institutions before the crisis period. By way of such restructuring of the governance mechanism, the powers of the controlling owners and CEO/executive chairperson have been counterbalanced by the strengthening of the various governance committees and the enhanced roles of independent directors in these board committees.

Despite the progress made in this direction by central banks or other fi nancial supervisory agencies in their regulatory reforms, board independence and the role of the CEO/controlling shareholders in decision-making are two contentious issues that have to be reckoned with in these countries. Since the CEO or the controlling shareholder has the power to select or terminate the services of the independent directors, this fact is persuasive enough for

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of the board can be the same person, as in the Republic of Korea, Malaysia, and Thailand. In Indonesia, where banks have a dual board system, these two roles are separated.

A positive development that is noted in all four country studies in this volume is that board members are now more cognizant about their roles in enhancing the effectiveness of their boards. Some of the ingredients that could produce effective boards may appear quite prosaic, such as providing adequate and timely information to the directors and providing education programs for their professional development. Others may be contentious, such as having formal annual CEO evaluation by the board, separating the CEO from the board chair position, and linking compensation more to bank performance. For example, most board members in Indonesia, Malaysia, and Thailand believed that separating the CEO from the board chair position would enhance the effectiveness of the board, but members did not believe so in the Republic of Korea. Not surprisingly, selecting well-qualifi ed board members and promoting boardroom culture that encourages discussions of alternative viewpoints were perceived as the most important ingredients for enhancing board effectiveness.

Policy and regulatory reforms in the banking system were spurred in the four countries by the occurrence of the 1997 crisis, especially in the areas of risk management, supervision, disclosure, and market discipline. For example, the Indonesian government completed its Banking Code in 2003 with a view to encouraging the practice of good corporate governance in the banking institutions. In the Republic of Korea, all fi nancial institutions have been subject to the supervision of an integrated supervisory system since 1998.

Along with the changes in the institutional framework, prudential regulations and supervision were also strengthened to ensure that Korean fi nancial institutions do not revert to their old practices.

Similarly, the Bank of Thailand has introduced revisions to its regulatory guidelines on risk management and disclosures and has restructured its supervisory group to ensure and promote a uniform standard of supervisions on all financial institutions. Bank Negara Malaysia, the central bank of Malaysia, has also given much emphasis to policy reforms to enhance corporate governance in the banking system during the post-crisis period. It is

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on public disclosures — will have far-reaching policy implications in the Malaysian banking industry.

A broad consensus that emerged from the country studies in this volume appears to favor greater emphasis on a more balanced approach to policy reforms with rule-based regulatory guidelines that also encourage the development of market discipline to guide the practice of corporate governance in the banking institutions. Demand for disclosure and transparency to better protect investors and enhance confi dence in the capital markets will increas- ingly become a norm. This is a positive trend, especially in the Asian corporate environment, where financial conglomerates of government-owned and family-owned banking institutions continue to proliferate. Though oversimplifying this positive trend would be wrong, it is indeed remarkable if we retain some sense of historical perspective. Judging from the pre-crisis environment, in which corporate governance practices in the banking institutions were grossly inadequate and poorly focused, the growing consensus for moving towards a market discipline governance mechanism in a short period of time since the crisis is remarkable.

In reviewing the role of stakeholders in disciplining banks in Indonesia, Kameyama, et al. reported that depositors have performed their role effectively in monitoring and disciplining banks right after the crisis in the absence of a blanket guarantee on deposits by the government of Indonesia.

However, there was no evidence that creditors performed this role effectively. Park provided similar evidence that depositors have indeed managed to exert some degree of market discipline in the Korean banking sector. During the crisis period, deposits at sound banks increased sharply, while the problem banks experienced a signifi cant slowdown in the growth of, or decrease in, their deposits. As worries over survival of banks subdued, the gap in the deposit growth rates between the two types of banks narrowed. The Korean evidence demonstrates that the existence of a blanket deposit guarantee can have compromising effects on market discipline.

In contrast, Polsiri and Wiwattanakantang argue that market discipline is less effective in Thailand due to some aspects of the institutional setting. In addition to an explicit blanket guarantee that was applied to all depositors

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shareholders. Although the central bank in Malaysia has put in place regulatory guidelines that provide a setting that would induce the development of market discipline in the banking system, the evidence (Lum and Koh) at this stage is still too scanty to prejudge any burgeoning grassroots development of market discipline initiatives. Nevertheless, the possibilities of moving towards a corporate governance mechanism driven by market discipline in these four countries seem to be widening.

We believe that the original purpose of this study has been achieved. Indi- vidually and collectively, the country studies in this volume form a coherent whole, permitting a comprehensive understanding of the state of corporate governance in the banking systems and the progress and remaining challenges of the post-crisis policy reforms in the four countries. We believe that the momentum set by the reforms will be maintained to make the practice of good corporate governance in the Asian banks a norm. The detailed descrip- tion and analysis of the four country studies support this view.

Sang-Woo Nam and Chee Soon Lum

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Thailand

Sang-Woo Nam and Chee Soon Lum

1. Introduction

Corporate governance in Asia has been a focus of attention since the out- break of the Asian financial crisis in 1997. The Asian Development Bank Institute (ADBI), which completed a comprehensive survey on corporate governance in four crisis-hit Asian countries in 2004, launched a subsequent research project on corporate governance of banks in the same countries.

Corporate governance at banking institutions deserves special attention given the importance of banks in Asia as well as the distinct characteristics of bank governance; concerns were widely articulated that the poor internal corporate governance mechanism in the Asian banking institutions was a contributing factor to the crisis. Four country studies on Indonesia, Republic of Korea, Malaysia, and Thailand were undertaken by country consultants and six theme papers were written by fi eld consultants on board effectiveness, risk management procedures, the role of market discipline, compensation of bank CEOs and directors, and fi nancial safety nets for the project.

During the post-crisis period, the bank supervisory authorities in the four countries have introduced various banking regulations largely focused on corporate governance of the banking institutions in their respective economies. Since the regulatory changes have been implemented in diverse ways, their impacts are also different on the institutional corporate governance mechanisms in each of these countries; some impacts are being felt earlier than others. The purpose of this paper is to provide a comparative analysis of corporate governance of banking institutions in these four countries through country-specific surveys of legal and regulatory environments as well as fi rm-level questionnaire surveys mainly on the workings of the key internal corporate governance mechanism − boards of directors or commissioners of banks.

• Information on country-specifi c legal and regulatory environments was collated with the help of country consultants. They are rules and regula-

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institutions − prudential regulation and supervision, provision of fi nancial safety nets (mainly depositor protection), and government regulations af- fecting competition and other aspects of the environment for commercial banks, such as restrictions on bank operation and ownership (see Appen- dix 1).

Against this background of the country-specifi c legal and regulatory environments, level questionnaire surveys were conducted at the level of fi rms (banks) to evaluate the effectiveness of the boards of directors or commissioners. The surveys have two components (in addition to basic corporate information about the banking institutions that joined the survey − see Ap- pendix 2).

• One focuses on factual information about the boards of directors or commissioners of individual banks. This information includes board size, composition, committees, independence and other characteristics, selection of outside directors, CEO/director evaluation and compensation, support for outside directors, and disclosure practices. A total of 63 banks are represented in the survey: 26 in Indonesia, 14 in Republic of Korea, 10 in Malaysia, and 13 in Thailand. They represent all the Exchange-listed banks in Indonesia and practically all of the commercial banks in the other three countries.

• The other focuses on the opinions of board members and was conducted to allow us to better understand the effectiveness of the boards. Subjec- tive opinions often help to gain deeper understanding which factual information cannot provide. The opinion survey covers the responsibilities and roles of the boards and board members, independence, election or dismissal of CEO and outside directors, information access for outside directors, director compensation and liability, and priorities for a more effective board. A total of 128 board members responded to the opinion survey: 50 executive directors and 78 independent directors and commissioners. By country, the respondents break down into 40 from Indonesia, 53 from Republic of Korea, 14 from Malaysia, and 21 from Thailand.

In addition to the above surveys focused on the boards of directors or commissioners, two more fi rm-level surveys were conducted. One is a survey on compensation of bank CEOs and directors and the other is on risk manage-

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The survey results indicate that despite the differences in the legal and regulatory environments among the four countries, suffi cient persuasive evidence exists to suggest that improvements are indeed being made in the corporate governance of banks in each of these countries through the regulatory changes during the post-crisis period.

2. Supervision and Financial Safety Nets

The presence of prudential regulation and fi nancial safety nets including depositor protection weaken the incentives of depositors and other stakeholders to monitor banks. These make ensuring improved corporate governance at banks as well as effective supervision of banks all the more important. To provide a better insight into the role of bank supervision, information was gathered with respect to the internal organizational structure and responsibilities of the bank supervisory agency, regarding its power to take legal actions against external auditors for their negligence and to declare insolvency of a bank that supersedes the rights of bank shareholders. For an updated perspective of the role and professionalism of bank supervisors, information was also gathered about the frequency of on-site inspections of the banking institutions and the salary, employment, and liability of the bank supervisors.

Bank Supervisory Agency

Except for Republic of Korea, where the Financial Supervisory Commission is responsible for the supervision of the banks, the role of the bank supervisory agency in the other three countries rests with the central bank: Bank Indonesia, Bank Negara Malaysia, and the Bank of Thailand. The head of the bank supervisory agency is appointed by the President in the case of In- donesia and Republic of Korea, by the Minister of Finance in Malaysia, and by the Crown upon recommendation of the Cabinet in Thailand.

In contrast to Thailand, the bank supervisory agency in Republic of Korea, Indonesia, and Malaysia has the legal power to make changes in the internal organizational structures of problem banks that have diffi culties to continue with the business of banking. While the ways these changes are implement-

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shareholders to replace the board of commissioners and/or board of directors of banks in difficulties while the Financial Supervisory Commission in Republic of Korea may order the closure or suspension of business and the replacement of the board members, the external auditors, and officers of problem banks. By way of imposing conditions on the banking licenses, such as threat of revocation and/or prosecution, Bank Negara Malaysia may remove or appoint new board members to resuscitate the banking institutions in diffi culties.

Except in Thailand, the bank supervisory agency in the three countries can take legal actions against external auditors for their negligence. The ways these legal actions are taken may be different in the three countries. The Bank of Indonesia can advise the Ministry of Finance and the Association of Public Accountants to revoke the licenses of the external auditors while the Financial Supervisory Commission in Republic of Korea can impose restrictions on their auditing business. In Malaysia, the central bank could blacklist the negligent external auditors or institute a negligence suit against the bank auditors, if necessary. The bank supervisory agency in all four countries supersedes the rights of bank shareholders and can legally declare insolvency of a bank.

The maxim of prevention rather than cure has motivated more frequent on- site inspections of banks by professional bank supervisors. The number of bank supervisors in the four countries varies from 50 in Thailand to 345 in Malaysia. At the last count, there were 100 professional bank supervisors in the Directorate of Bank Supervision in Indonesia and about 183 professional bank supervisors and examiners in the Financial Supervisory Commission in Republic of Korea. Regular on-site inspections are conducted at least once a year in all four countries and seem to be much more frequent in Malaysia than in other countries. Additional on-site inspections may be conducted if the circumstances warrant the frequency of the inspections; their frequency varies among the countries. For instance, partial on-site inspections are frequently conducted in Korean banks while bank supervisors in Thailand inspect the high rated banks once every two years and twice a year for banks with low ratings. These numbers attest to the seriousness with which the task of bank supervision and examinations are conducted in these four countries.

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Financial Supervisory Commission or the Bank Negara Malaysia have been employed as offi cers of fi nancial institutions. Almost all the bank supervisors at Bank Indonesia work there until they retire. In Thailand, some of the higher ranking bank supervisors may be employed by banks after they have retired, but their turnover rate is observed to be rather low in the Bank of Thailand.

A signifi cant indicator of the impartiality of bank supervisors is that the salary of the working level supervisors is as competitive as the bankers in the private banking industry in all four countries. In practice, bank supervisors are provided with statutory immunity for their actions and thus are not legally liable for the implementation of the policy decisions as long as such actions are taken in accordance with the task and authority and conducted in good faith.

Depositor Protection

Before the Asian fi nancial crisis in 1997, Republic of Korea was the only country of the four that had an explicit partial deposit insurance system.

Indonesia, Malaysia, and Thailand each had an implicit deposit guarantee system, but there are plans in these countries to introduce an explicit deposit insurance system in the future. Given that providing deposit insurance is still a contentious issue, a persuasive argument for introducing an explicit deposit insurance system in these countries is that small depositors who lack the knowledge or the resources to monitor risky banks can be protected to some degree by the existence of deposit insurance.

As a result of the depth of the fi nancial crisis, all four countries introduced blanket deposit guarantee systems in which both deposits and liabilities of creditors were fully covered right after the crisis. However, some modifi cations were made to the blanket deposit guarantee in Republic of Korea and Thailand during the post-crisis period. In the case of Republic of Korea, from July 1998, deposits exceeding 20 million won were guaranteed only for the principal sum; in Thailand, creditors have not been covered since October 2003.

In January 2001, an explicit deposit insurance system was re-introduced in

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Although the system excluded variable insurance premiums and differen- tial capital requirements for high risk banks, the Korean Deposit Insurance Corporation (KDIC) had the legal power of recourse if there were reasons to suspect that wrongdoings existed. By the end of 2003, as a result of its investigation of 15 insolvent banks which had received public funds, KDIC was able to make damage claim proceedings against 186 bank offi cers and other employees for compensation worth 85 billion won, attesting to the fact that the KDIC could take legal actions against bank directors and offi cers of the banking institutions if wrongdoings existed.

This power of recourse also exists for the implicit guarantee system in the other three countries. In Malaysia, there have been a few isolated cases of prosecution for contravention of the Bank Act. In Indonesia and Thailand, the two central banks have taken legal actions against the banks and their directors in the past. For instance, Bank Indonesia can apply administrative sanctions to the banks, including revoking their bank licenses; such actions have been taken involving Bank Bali, Bank BNI, Bank Dagang, and Bank Asiatic. In the case of Thailand, the Bank of Thailand can take legal actions against the banks and the bank directors when the conduct and operation of the bank may cause damage to the public interest or when the directors fail to comply with a central bank order for rectifying such conditions. The Bank of Thailand has applied its power of recourse in cases involving the Bang- kok Bank of Commerce (BBC) in the past.

3. Competition and Restrictions on Bank Operation and Ownership

Competition can be complementary with corporate governance in disciplining banks, but regulations on bank ownership and operation may also restrict competition among banks. There are varying degrees of competitive environments, restrictions, and regulations on the operations of different business segments and the ownership structure embedded within the banking institutions in the four countries. The results of the ADBI survey have indeed provided a rich source of such information for a comparative analysis of the banking industries in the four countries.

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mestic), and 12 in Thailand. The market share for the fi ve largest commercial banks in terms of deposits ranges from 50 to 70%: 57.3% in Indonesia, 71.4 % in Republic of Korea, 54.8% in Malaysia, and 71.4 % in Thailand.

These differences provide an impression that the Korean and Thai banking industries are more oligopolistic than those in Indonesia and Malaysia. This picture changes when the analysis of the data focuses on the market shares of government-controlled banks and foreign-controlled banks in these four countries.

Specifically in Indonesia, government-controlled banks have the highest market share (41.5%) and foreign-controlled banks have the lowest market share (10.6%). In contrast, Thailand has the highest market share for foreign-controlled banks (40.1%) and Republic of Korea has the lowest market share for government-controlled banks (18.2%, though its market share for foreign-controlled banks, 19.3%, is also relatively low). In Malaysia, the government-controlled banks (37.0%) and the foreign-controlled banks (31.4%) each constitute about one-third of the market share in the banking industry.

Regulations on Banking Businesses and Operation

Compared to Indonesia and Republic of Korea, Malaysia and Thailand have fewer restrictions on the banking institutions in terms of offering various fee income businesses such as credit cards, insurance, underwriting corporate equities and fi xed income securities, fund management and investment advice, securities brokerage, and real estate businesses. Indonesian banks seem to have the most restrictions: they are not allowed to deal with real estate businesses, while they are only permitted to engage indirectly through capital participation in other businesses that own fund management and insurance businesses or deal in underwriting and securities brokerage businesses. Korean banks are allowed to operate fund management and credit card businesses only with the approval of the Financial Supervisory Service, but not permitted to provide securities brokerage services. They are allowed only to deal with commission sales in insurance business and leasing in real estate business.

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and Thai banks and was not allowed to Indonesian banks. Securities businesses were also rarely provided by banks in the sample countries; exceptions include securities underwriting at Thai banks, fund management at Ko- rean banks, and investment advice at many banks in all the countries except for Indonesia. Real estate business is undertaken by virtually none of the respondent banks except for Malaysian ones.

Other specific banking regulations may appear repressive to banks while others may be masqueraded forms of entry barriers to the banking industry.

In all four countries, the banking institutions have to follow government- directed credit guidelines in their loan portfolios. They are also required to maintain a minimum capital adequacy ratio of 8% as well as a minimum liquidity level. However, there is no limit on fees for bank services in the banks in any of the four countries. In contrast to Malaysia, banks are not subject to any requirement for minimum investment in government securities in the other three countries. Except for Malaysia, banks in all of the countries are subject to restrictions on taking equity investment or ownership in non-fi nancial fi rms. While there is no limit on interest rates in Republic of Korea and Malaysia, some restrictions remain in Thailand and Indonesia. As for branching, Indonesian banks do not face any restrictions, while restrictions apply only to foreign banks in Republic of Korea and Malaysia.

Ownership of Banks

Family ownership of banks was prevalent in the three countries except for Republic of Korea before the crisis, and this is viewed as one of the structural weaknesses that brought about the 1997 crisis. This was particularly significant in Indonesia and Thailand. In the process of restructuring the fi nancial sector including recapitalization by the government, many of the controlling families lost their control. Now, there are only two or three family-controlled firms in Indonesia (among the Exchange-listed banks), Malaysia, and Thailand. There are none in the case of Republic of Korea.

To prevent concentration of power, there are restrictions on the maximum allowable ownership of a bank by an individual or corporation in the four countries. However, these restrictions vary considerably among the four countries. In Thailand, the restriction is the most simple: the maximum

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ownership cannot exceed the net worth of the domestic legal entity concerned, but ownership by foreign legal entities is allowed up to 99% of the bank’s paid-up capital.

In Malaysia, the maximum allowable ownership of a bank is restricted to 10% for an individual and 20% for others unless the Ministry of Finance ap- proves a higher share. While there is no maximum allowable ownership of a bank for existing approved foreign entities, there is a limit of 10 to 15% for new entrants, which can be extended to 30% by the central bank in certain cases. In Republic of Korea, the maximum allowable ownership of a bank by an individual, family, corporation, business group, or foreign entity is restricted to 10% for a nationwide bank and 15% for a regional bank. Un- der special circumstances, with the approval of the Financial Supervisory Service, both domestic and foreign investors may exceed these limits in the ownership structure of the banks.

Non-fi nancial fi rms or groups can be a controlling owner of a bank in Indo- nesia, Malaysia, and Thailand. A non-fi nancial business entity may acquire up to 10% of the total shares of a Korean bank for investment purposes, but it may not exercise voting rights exceeding 4% in the bank. Financial holding companies owning Korean banks are required to abide by a separate set of fi nancial rules, but there is no difference in the ownership restrictions. In contrast, there are no separate ownership rules for banks owned by fi nancial holding companies and fi nancial groups in Indonesia, Malaysia, and Thai- land.

In general, large shareholders of banks are not required to seek approval before acquiring certain levels of ownership within the allowed limits in all four countries. In Indonesia, however, these large shareholders are required to report any changes in their ownership of the banks to Bank Indonesia.

In Malaysia, an acquisition or disposal of 5% or more of the bank shares requires the consent of Bank Negara Malaysia. This rule is usually waived in the case of fund managers who purchase listed bank shares beyond this threshold if there is no intention to gain control of the banks.

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quality of corporate governance to a large extent. The results of the factual information surveys about the board of directors, complemented by the opinion surveys of board members, provide a fairly comprehensive picture of the boards at banks in these Asian countries. The salient board characteristics include board accountability, overall responsibilities, composition and meetings, the roles of the CEO and independent directors, board committees, and related-party transactions.

Board Accountability

Respondents in all four countries indicated that the board was accountable to the shareholders, depositors, and creditors. Except in Indonesian banks, where respondents believed that the board was mainly accountable to the depositors, board members felt that they were mainly accountable fi rst to the shareholders and then to the depositors and creditors in terms of their importance.

It appears, however, that when making corporate decisions the board was highly concerned about the controlling shareholder. Except for in Thailand, the board members ranked the controlling shareholder as the most important person and the minority shareholders and depositors as the second-most- important persons they are responsible to. Interestingly, the opinion survey also indicated that the fi nancial supervisory agency was at the lowest rank of the pecking order in terms of importance to which the board is accountable to. This was true in all four countries.

Responsibilities of the Board

The banking laws and regulations of all four countries defi ned the role and responsibilities of the board of directors quite clearly. As specified by the banking laws and regulations, the board was involved in all major tasks in the banks, namely:

• nominating, replacing, and monitoring the CEO and key executives,

• formulating, reviewing and guiding corporate strategies,

• approving and reviewing risk management and the internal control system,

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• reviewing the compensation of executive and non-executive directors.

The degree of board involvement in overseeing and implementing major corporate policies varies across the countries. For example, the boards in Thailand are not specified by law to set performance objectives, review and approve annual budgets, or set key executive compensations and board remuneration. The important role of the board in monitoring disclosures, related-party transactions, and self-dealings is specifi ed by the banking laws and regulations in Indonesia, Malaysia, and Thailand. The boards in Korean banks, however, are not obliged by law to oversee the process of disclosure or to monitor and manage potential confl icts of interests of the controlling shareholders and the stakeholders.

The opinion survey reveals that these board functions are generally well performed by the boards of respondent banks. However, there are some functions where the boards are relatively ineffective. These include the function of selecting, monitoring, and replacing CEOs: in both Indonesia and Republic of Korea, only 55% of the respondents agree that their boards are effective in this function. Even though about 80% of Korean and Malaysian banks and around 65% of Indonesian and Thai banks say that their boards regularly review CEO compensation, the opinion surveys show a relatively low score in accomplishing this function.

Board Composition

Both government offi cials and foreigners can be appointed as board members in all four countries, except for current government offi cials in Republic of Korea, though politicians are disqualifi ed as board members. There is no restriction on the number of foreign members who can serve on the board.

There are, however, restrictions on the minimum size of a board; these vary among the four countries. The minimum members are 2 for Indonesian banks, 3 for Korean banks, 5 for Malaysian banks, and 9 for Thai banks.

The average number of board members among the sample banks was 5.5 in Indonesia, 9−10 in Republic of Korea and Malaysia, and 12 in Thailand. In all four countries, there is usually a fi t and proper test for the appointment of board members. The test excludes those who are bankrupt or have been pun-

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serving on the board in all of the four countries. In Indonesia, independent commissioners should make up at least 30% of the total number of board members. In the Korean banks, at least 50% or at least 3 of the board members must be independent directors. The requirement in Malaysia is that at least one-third or at least 2 members of the board must be independent directors. In Thailand, the composition of the board should have at least 3 independent directors or at least one-fourth of the board should be independent directors. The average share of independent directors/commissioners on the boards of our respondent banks was 73% in Republic of Korea, 48% in Ma- laysia, and around 35% in Indonesia and Thailand. While all non-executive directors are required to be independent directors in Republic of Korea, the banks in the other three countries typically had several non-executive, non- independent directors.

There are restrictions on the maximum number of boards on which a bank director can serve; these restrictions vary considerably among the countries.

They are largely intended to minimize the problems of connected lending engendered by inter-locking directorships in multiple organizations. In In- donesia, members of the board of commissioners may only hold concurrent positions as a member of the commissioners of one bank and as director or executive offi cer at not more than two non-bank fi rms. An outside director in a Korean bank is not allowed to serve on more than two boards of listed companies. In Malaysia, an executive director cannot serve in another listed company and a non-executive director cannot serve at more than 25 fi rms (10 listed and 15 unlisted). In Thailand, a bank director is not permitted to serve in more than 3 business groups. Our survey results show that directors or commissioners in Indonesia and Republic of Korea typically serve on only one board, while Thai directors usually serve on two or three boards and Malaysian directors on four or more.

Independent Directors

A significant regulatory reform introduced by the bank supervisory agencies in all four countries is the appointment and defi nition of the role of the independent directors in the board. In all four countries, the appointments of independent directors are subject to quite similar requirements. In most

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board.

Unlike the family members of a controlling owner, large shareholders of a bank can be appointed as independent directors in all four countries. How- ever, there are restrictions on the number of shares that they can hold in In- donesia, Malaysia, and Thailand. Independent commissioners in Indonesian banks are not permitted to hold controlling shares (i.e., 20%). Independent directors in Malaysian banks may hold up to 5% of the listed bank shares while in Thailand, they can hold at most 0.5% of the bank’s shares. Except in the case of Indonesia, no bank employee or major borrowers of the bank can be appointed as independent directors of the board.

In general, most respondents (at least 70%) in the opinion survey believed that independent directors are truly independent from the CEO or the controlling shareholders, but there are also compelling reasons for some respondents to believe otherwise. More than 50% of the respondents in all countries indicated that the fact that the controlling shareholder or the CEO has the power to select or terminate the service of the independent directors is one of the reasons why they do not believe that independent directors are truly independent in performing their role on the board. Some board members were also concerned about personal relationships with other directors and top management.

Bank’s CEO (President)

Like the other board members, the appointment of the CEO is also subject to a fit and proper test in all four countries. In contrast to Malaysia and Thailand, there are separate regulations on the qualifi cations for the appointment of a bank CEO in Indonesia and Republic of Korea. In Indonesia, the President Director of a bank should be independent from the controlling shareholder. In the case of Korean banks, persons who are disqualifi ed from becoming CEO of a bank include those who have been subject to disciplin- ary actions involving large bad loans or are perceived as standing for the interest of specifi c loan clients due to a special relationship with the borrowers. CEOs in the three countries other than Thailand are required to certify the bank’s fi nancial statements.

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two functions are observed to be separate, while the functions are separate at 70% of the Malaysian banks. In the case of Republic of Korea, only three out of the 14 banks have these functions separated.

In all four countries, with some exceptions among Korean banks, CEO compensations are not substantially linked to stock options and only part of it is based on performance.

Enhancing the Effectiveness of the Board

One of the signifi cant positive results about the opinion survey is the fact that almost all board members believed that they played an important role in enhancing the effectiveness of the board. They also believed that the following key ingredients were important to produce an effective board:

• selecting better qualifi ed and truly independent directors,

• separating the CEO from the board chair position,

• promoting boardroom culture that encourages constructive criticisms and alternative views,

• adequate and timely provision of information to the directors,

• providing education programs for directors,

• formal annual CEO evaluation by the board,

• making director compensation linked more to bank performance, and

• better public disclosure of board activity.

To improve the board effectiveness, all respondents in the opinion survey overwhelmingly indicated that it was important to select well-qualified board members and promote boardroom culture that encouraged discussions and exchange of alternative views. The survey also shows that the board performance should be reviewed annually. Except in the Korean banks, more than two-thirds of the respondents believed that separating the CEO from the board chair position would enhance the effectiveness of the board.

Only 20% of the Korean respondents agreed or strongly agreed on this issue.

Most of the respondents in Indonesia, Republic of Korea, and Thailand sug- gested that for the board to be effective, it should have fewer board members

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bers from the management staff still appeared to be inadequate. As revealed by the opinion survey, independent directors were not always provided with timely information and were not always adequately briefed about the agenda before board meetings. Second, some directors are seriously concerned about the civil or criminal charges that might be brought against them. This possibility may sometimes discourage qualifi ed people from assuming such positions or may affect the way directors carry out their fi duciary and leg- islative duties. Interestingly, the survey results show that Korean directors were least concerned about this issue while many directors in the other three countries considered the possibility of being sued as a very serious issue of concern. Somewhat unexpectedly, the survey results revealed that regular board meetings and the disclosure of the attendance of directors at board meetings are not mandatory in Indonesian and Korean banks. In Malaysia and Thailand, attendance by directors at board meetings must be disclosed and board meetings must be conducted at least six times and at least four times a year, respectively.

Related-party Transactions

The crux of the governance issue in banks is confl icts of interest. The rules governing the conduct of “interested” directors are similar in all four countries. Board members are prohibited from participating or voting in any decision-making that involves confl icts of interest that affect the bank ad- versely and there is an obligation for the bank to disclose such confl icts of interest. In all four countries, the disclosure requirements for related-party transactions also apply to the senior management and the directors, including their close family members. This disclosure rule also applies to indi- viduals who are major shareholders and their family members in the Korean, Malaysian, and Thai banks. In the case of Indonesian banks, this rule applies only to the major shareholders but not to their close family members.

One of the glaring concerns about confl icts of interests in banks is related to whether senior management staff and board members are privileged re- cipients of favorable bank loans. This is obviously a contentious issue and has been viewed differently by the bankers in the four countries. With some restrictions, Indonesian, Korean, and Thai banks are permitted to provide

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cretion to give loans to the bank CEO, directors, and employees, as long as the loans do not exceed 20−60 million won depending on the types of the loans, as determined by the Financial Supervisory Commission. Similarly, in Thailand, the commercial banks can lend to their directors and senior management, provided that the loans do not exceed specifi ed limits. In contrast, Malaysian banks are prohibited from lending to their board members, bank offi cers, and employees.

Board Committees

In all four countries, the establishment of an audit committee is mandatory but the rules governing the composition of the members of the audit committee vary among the countries. In Indonesian banks, the audit committee should consist of at least one independent commissioner and a minimum of two outsiders. In the Korean banks, at least two-thirds of the total committee members must be outside directors. Malaysian banks are required to have a majority of independent directors and at least three non-executive directors in their audit committees. Similar rules apply in the case of Thailand, where the banks are required to have a minimum of three independent directors and at least two independent directors in their audit committees.

Although not mandatory and not expected, members of the audit committee in some banks are qualifi ed in the accounting discipline or have fi nance ex- pertise. This seems to be more prevalent in the Indonesian and Thai banks.

The audit committee has the responsibility to oversee the appointment of external auditors for the bank. In all four countries, at least 60% of the banks used the services of one of the Big Four audit fi rms as their external auditor.

Unlike audit committees, the establishment of nomination committees, remuneration committees, and risk management committees are not mandatory in the banks in all of the four countries. Nomination committees are not mandatory in Indonesia and Thailand. A nomination committee in a Korean bank should have 2 or more directors, half of whom must be outside directors. In the Malaysian case, the nomination committee should be made up of 5 members, of whom 4 must be non-executive directors, and the chairperson of the committee must be an independent director. Except in Malaysia, the establishment of remuneration committees is not mandatory in any of the

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While the establishment of a risk management committee is not mandatory for Korean banks, these committees are actually in place at all Korean banks. Where it is mandatory, in the other three countries, the rules for the composition of the members in the committee vary among the countries.

Bank Indonesia regulations stipulate that the risk management committee should consist of a majority of directors and related executive offi cers. In addition, the national and banking sector corporate governance code requires that Indonesian banks should have at least one independent director in their risk management committees. In the case of Malaysia, this committee should be composed of a minimum of 3 non-executive members and chaired by an independent director. The composition rules are simpler in the case of Thailand, where the committee is required to have at least 5 members who are the bank’s directors or executives.

Nomination committees and compensation committees were in place each at about 40% of our respondent banks in Indonesia and at 85% of Thai banks.

Compensation committees were also in place at more than 70% of Korean banks.

5. Disclosures Rules and Other Regulations

During the post-crisis period, the bank supervisory authorities in the four countries have given high priority to regulatory changes that encourage disclosures of relevant information in the banking industry. Moving towards full disclosure and transparency by banks and their boards is pivotal to the development of effective market discipline in the banking system. Banks in all four countries are now required to comply with rules governing the disclosure of specifi c information contents in their annual reports.

In all four countries, the following information is required to be disclosed in the annual reports of the banks:

• consolidated accounts covering all bank and non-bank subsidiaries,

• major off-balance sheet items,

• identity of major shareholders,

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Except for Indonesia, all four countries require banks to disclose policies on risk management and risk factors in their annual reports. None of the four countries requires banks to disclose information about the compensations of individual senior management and non-executive independent directors in their annual reports.

In all four countries, strict regulations require that banks’ audit standards should materially conform to the International Standards on Auditing (ISA).

All banks are obliged to have compulsory external audits of their fi nancial statements and accounts; any specifi c requirements for the extent or nature of the audit must be spelled out and disclosed to the public.

A fi nal milestone in the post-crisis reforms has been the introduction of a corporate governance code for banks and financial institutions in all four countries. In Indonesia, this code is issued by the National Committee on Corporate Governance. In Republic of Korea, the Ministry of Finance and the Financial Supervisory Commission are responsible to ensure that the code is followed as well as practised in good faith. In Malaysia and Thai- land, the central banks are the gatekeepers of this code.

6. Compensations of Bank CEOs and Directors

A survey of executive compensations of banks, conducted in 2004 along with other ADBI surveys, was analyzed in terms of the directors’ compensations and CEO turnover for the same four Asian countries. The sample of the study includes 63 banks which provided relevant information for the period 2000−2003. Two sets of data were derived from this sample: compensations for CEOs and for members of boards of directors. The data set for CEO compensation has 80 observations from 27 banks: 24 observations from 8 Indonesian banks, 24 from 8 Korean banks, 29 from 10 Malaysian banks, and 3 from 1 bank in Thailand. The data set for the compensation for the board of directors includes 133 observations from 45 banks: 37 observations from 13 Indonesian banks, 27 from 9 Korean banks, 30 from 10 Malaysian banks, and 39 from 13 banks in Thailand. The main results of this survey, summarized below, are elaborated in Kubo (2005).

The first key result is that fixed pay of bank executives constitutes a sig-

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large. The mean annual bonus was USD 16 thousand and the mean amount of other cash compensation was only USD 4.8 thousand, suggesting that some banks use other fi nancial incentive devices, such as long-term incentive plans, to encourage the CEO to improve bank performance. The survey results show that a CEO typically owns only 0.055% of their bank’s shares, implying that bank managers do not have strong incentives to maximize the market value of the bank. However, including the aggregate shares owned by the CEO’s family, which amounted to 26.6%, reveals a strong incentive to maximize family wealth. The survey results also indicate that stock options are not a popular fi nancial incentive instrument used by bankers in the surveyed countries, except in Republic of Korea.

Overall, the empirical results show that compensations for CEOs, boards of directors, and executive directors are positively related to changes in stock return. These results imply that as directors’ compensation depends on stock return, they have fi nancial incentives to maximize stock return and improve bank performance. The results also reveal that the board of directors in a bank with a compensation committee has financial incentives to improve bank performance.

In the analysis of the determinants of CEO turnover, the empirical results show that there is a signifi cant negative relationship between bank performance (ROA) and CEO turnover. In addition, the results also reveal that stock return is also negatively related to CEO turnover, as predicted, although not to a signifi cant extent. These results are suffi ciently persuasive to suggest that bank managers, including CEOs, boards of directors, and executive directors, have incentives to improve bank performance.

7. Risk Management Practices

Ensuring adequate risk management is one of the major tasks of boards of directors, particularly for banking institutions. A survey of the soundness of banks’ risk management practices involved a total of 52 commercial banks:

22 in Indonesia, 13 in Republic of Korea, 6 in Malaysia, and 11 in Thailand.

The survey covered practices related to general risk management, internal control, and the management of credit, market, and operational risks. Spe-

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closure practices of the banks, including the relevant practices of the bank supervisory authorities in terms of risk management and internal control.

The overall results confi rm that the banks’ risk management practices in the four countries conform in most part to internationally accepted standards under the current supervisory framework; the banks in these countries have sound internal control as well as credit and market risk management systems. However, in the areas of general risk management and operational risk, the banks’ practices require some improvement. Except in the area of general risk management, where foreign banks’ practices are better, the results suggest that there is no signifi cant difference in risk management performance between domestic and foreign banks. In terms of ownership types, the best overall scores were obtained by family-owned banks, especially in the area of operational risk management. In contrast, the lowest scores are related to banks owned by widely held non-fi nancial fi rms, which are weak in operational and general risk management practices.

The survey results also show that on average, banks face medium risks. The larger banks tend to have lower risks as a result of their more diversified business activities. Domestic-owned banks clearly face higher risks than their foreign counterparts, especially with respect to lending practices and to concentration of activities in a single business line. Also, banks with different ownership types tend to be more exposed to particular risks: high pro- portions of unrated borrowers for banks owned by widely held non-fi nancial fi rms, concentrated loans to large fi rms for family-owned banks, and loan concentration in certain business activities for government-owned banks.

The survey results reveal that the current level of banks’ public disclosure related to their risk exposure is still unsatisfactory. A signifi cant 31% of the total banks surveyed had no formal disclosure policies. Another 27% with respect to market risk and 20% with respect to credit risk did not have pub- licly disclosed risk exposure reports for the benefi t of investors during the past three years. The information content disclosed by the banks included on average only about half of the key elements recommended by the Basel Committee for regular public disclosures related to banks’ credit and market risk exposures.

There are significant differences among the four countries as for the fre-

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owned by fi nancial institutions and widely held non-fi nancial fi rms.

The survey results also confi rm that Asian banks are taking up the challenge of Basel II, especially in the use of more sophisticated risk measurement approaches. Korean and Malaysian banks are the most enthusiastic adherents of the more risk-sensitive approaches. About half of the banks surveyed either have completed or expect to complete their preparations for risk mea- surements according to Basel II requirements before the implementation date in early 2007. Malaysian banks are the most advanced in this respect, while a large majority of Indonesian banks indicate that they would not be ready to implement Basel II requirements by 2006. The main resource constraints faced by banks in implementing Basel II requirements are the avail- ability of data and technology, especially in the areas of credit and operational risk. The banks, particularly those in Malaysia and Republic of Korea, do not consider funding and staffi ng as major constraints.

In summary, the survey reveals three main results. First, the risk management practices in the areas of credit and market risk are generally considered adequate, though the need remains to integrate risk management more closely into the overall governance practices of the banks. Second, in spite of evidence that the diligent performance of the supervisory authorities with respect to risk management and internal controls in the post-crisis period has paid off, the effectiveness of supervision has also been limited, especially in promoting more robust management of credit risk. This indicates the importance of improving public disclosure practices as a way to strengthen the role of market discipline in these countries. Third, the banks are responding very positively to the challenge of Basel II, perceiving it as an opportunity to move toward a more robust risk measurement and management practices framework.

8. Conclusion

In retrospect, we can see that the development of corporate governance in the banking institutions in post-crisis Asia, especially in the four hardest hit countries, Indonesia, Republic of Korea, Malaysia, and Thailand, involved some common and yet relatively diverse elements. This is not surprising,

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ated the governments’ and central banks’ implementation of their structural and regulatory reforms to improve corporate governance in the banking systems in all of these four Asian countries during the post-crisis period. The urgency of the governments to tackle the structural weaknesses in the corporate governance mechanisms of their banking institutions reveals that the post-crisis period marked a turning point for corporate governance practices, though some of the regulatory impacts have yet to be realized.

The contributions in the country papers in this volume point, from several perspectives, to the concrete developments concealed behind the structural and regulatory reforms. These developments are likely to have far-reaching structural changes in the corporate governance mechanism of the banking institutions in these Asian countries in the coming years. A few core aspects are highlighted here; these form the background of analysis on corporate governance in the banking institutions in post-crisis Asia.

Bank supervisory agency, depositor protection, and moral hazard. All four countries have strengthened their bank supervisory agencies, giving them adequate authority to deal with problem banks. The degree to which the agencies exercise this authority may vary. For example, the Bank of Thai- land has a relatively small number of supervisors and it does not have the power to remove board members or other bank offi cers or take legal actions against external auditors for their negligence.

Except for Republic of Korea, all four countries still provide a blanket guarantee to depositors, which the countries were forced to adopt to deal with the 1997 fi nancial crisis. The blanket guarantee must have resulted in some moral hazard behaviors on the part of banks and depositors. However, bank supervisory or deposit insurance agencies in all four countries seem to have tried to mitigate the problem by exercising their legal power of recourse when they found any wrongdoings or negligence by banks or bank directors.

Competition and ownership of banks. The banking market is not very com- petitive; the deposit share for the fi ve largest commercial banks is over 70%

in Republic of Korea and Thailand and 55−57% for Malaysia and Indonesia, and the share of government-controlled banks is as high as 36−42% for all the surveyed countries except for Republic of Korea.

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lost their control. Thus, the concern of exploiting minority shareholders or other confl ict of interests associated with family control of banks seems to be far less serious now.

Board of directors. Basic board functions are generally performed well in all of the four countries. The areas with room for improvement include selecting/replacing and monitoring CEOs and reviewing their compensation, providing adequate corporate information and timely briefings on board meeting agendas to outside directors, and providing some insurance cover- age to directors to protect them from personal liability.

All four countries have introduced regulatory changes to recognize the key roles of independent directors and audit committees in the governance mechanism. The share of independent directors/commissioners is as large as 73% for Republic of Korea and 48% for Malaysia, but remains at 35%

for Indonesia and Thailand. At least 70% of independent directors tend to believe that they are truly independent, even though there are still questions about whether their independence can be compromised, by such factors as the power of controlling shares to select and terminate independent directors. Audit and risk management committees have now become a norm in all four countries. Nomination and compensation committees, however, are not a norm; each of the committees is in place at only about 40% of Indone- sian (Exchange-listed) banks and at 85% of Thai banks, and a compensation committee is in place at about 70% of Korean banks.

Compensation of bank CEOs and directors. Most bank executives in these four countries are compensated relatively highly in terms of fi xed pay with some portion linked to bank performance but little stock-based compensation except for at some Korean and Malaysian banks. However, high compensation for bank executives/directors and low CEO turnover seem to be positively related to banks’ stock return or ROA. This evidence indicates that bank managers and directors have incentives to improve bank performance.

Risk management practices. Overall, banks in all four countries seem to have internationally accepted standards of risk management practices, though they have room for improvement in the management of general risk