A sound banking system is vital in supporting a sound and strong economy. One of theÂ important pillars of a sound banking system is market discipline, which is the reaction ofthe market makers on the risks taken by banks as a form of supervision and discipline. TheÂ objectives of this paper are to examine: (i) the existence of market discipline by depositorsÂ in the deposit insurance era by the Indonesia Deposit Insurance Corporation (LPS); (ii)Â the difference in market discipline by depositors before and after the policy of increasingÂ the value of deposit covered; (iii) the difference between market discipline by depositors ofÂ Islamic banks with conventional banks. The data used are annually individual bank dataÂ from the Indonesian Banking Directory (DPI) in 2005-2009. The dependent variable is theÂ change in deposits, which is used as proxy for market discipline in t period. TheÂ independent variables used are CAR, APB, NIM, and LDR as proxy of financialÂ risk/fundamental condition of the bank in t-1 period. The result indicates the existence ofmarket discipline in Indonesia and also shows that market discipline is detected strongerÂ in the period 2005-2007 than the period 2008-2009. This study also indicates that marketdiscipline by depositors of Islamic banks are stronger than those of conventional.Keywords: market discipline, deposit insurance, Islamic and conventional banks.
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