The collapse of Singapore lender DBS's $6.5 billion bid for Bank Danamon is further evidence of a "rising tide of economic nationalism" in Indonesia that may deter foreign investors, analysts warn.
DBS unveiled its bid to buy 99 percent of the Indonesian lender with great fanfare in April last year, in what would have been Southeast Asia's biggest ever bank takeover.
It seemed a perfect fit. Danamon has a huge branch network across the sprawling Indonesian archipelago and six million customers, and could serve as a launch pad to tap into a country where millions still do not have bank accounts.
DBS was in need of new customers away from its wealthy home base of Singapore and as Southeast Asia's biggest bank could have provided cash for Danamon to expand.
But the Singapore bank this week walked away from the takeover, its dream of buying Indonesia's sixth-largest lender by assets in ruins after regulators put up barriers in the form of more restrictive ownership rules.
Announcing the decision, DBS Group chief executive Piyush Gupta insisted the bank was still "positive about Indonesia's long-term potential" -- but analysts were in no doubt the failure would send a negative signal to investors eyeing Southeast Asia's top economy.
The failure was evidence that "global investors are facing a rising tide of economic nationalism in Indonesia," said Rajiv Biswas, chief Asia Pacific economist at global consultancy IHS.
"The combination of rising political and regulatory risks in Indonesia could create a toxic cocktail that deters foreign investors, despite Indonesia's fast-growing consumer market."
Observers also warned it was a bad time for Indonesia to be scaring away foreign investors amid signs its economic boom is losing steam, with growth slowing and inflation rising.
It is just the latest example of an overseas company running into trouble in Indonesia, with critics saying that legislation is increasingly targeting foreign investors unfairly.
Other instances include regulations that stipulate foreign miners must gradually give up majority ownership of mining assets, and a plan to ban the export of raw minerals to encourage local production.
"Indonesia has a nasty habit of strangling its golden geese with regulation in particular when it comes to the politically sensitive issue of foreign operations there," said consultancy Control Risks in a note.
It said the political climate was particularly difficult at the moment with "economic nationalism in vogue ahead of 2014 elections".
Critics point out that in the case of DBS-Danamon, the central bank's decision to overhaul bank ownership rules several months after the deal was announced followed an outcry by nationalist politicians.
Rules introduced in the wake of the Asian financial crisis of 1997-98, which ravaged the Indonesian economy, allowed financial institutions to buy up to 99 percent of Indonesian domestic banks and were aimed at attracting investment.
But under the new regulations, the central bank allowed financial institutions -- both domestic and foreign -- to buy only an initial stake of 40 percent.
Bank Indonesia will only allow institutions to take a controlling stake if they go through a complex process of financial health tests -- and some speculate this is unlikely for a foreign company unless Indonesia gets something in return.
There was speculation that DBS might have been granted a waiver to secure Indonesia's biggest bank takeover in history.
The 99 percent stake DBS was seeking included 67.37 percent held by Asia Financial (Indonesia) Pte Ltd, a subsidiary of Singapore state investment firm Temasek Holdings.
But when the central bank made its decision in May, it only allowed the lender to take a 40 percent stake, and demanded Singapore open its financial sector to Indonesian banks if they wanted more.
And while the city-state's initial statements about the deal seemed positive, there was little outward sign of progress in recent weeks before DBS decided to let the deal lapse last week.
Despite the concerns raised by analysts, Bank Indonesia governor Agus Martowardojo has insisted that the door is still open to foreign investors.
"We are relatively open compared to other countries in the region," he was quoted as saying in the Jakarta Globe newspaper.
Some in Indonesia also argued that doing away with the 99-percent cap was long overdue as the economy is booming and the country is right to try to keep more of the rewards from a sector that is set to grow exponentially.
Only around half of Indonesians over 15 have bank accounts, leaving around 60 million, including many now joining the middle class, in need of banking services, according to authorities.
The 40-percent cap is also more in line with other Southeast Asian countries, none of which currently allow foreign companies to take controlling stakes in banks.
"Bank Indonesia has clearly reacted to noises made by leaders and parliament, but it's quite true there has been an awful lot of access in the bank sector in the past," said Keith Loveard, chief risk analyst at Concord Consulting in Jakarta.