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Indonesia keeps interest rates unchanged despite slowdown

Publication Date : 09-05-2014

 

Indonesia's central bank held its key interest rate unchanged at 7.5 per cent on Thursday as pressure on the country’s external account outweighed the need to accelerate Indonesia’s slowing economy.

The nation’s economic growth slowed to 5.2 per cent in the first quarter from 5.7 per cent a quarter earlier, making a case for the central bank to shave its gross domestic product (GDP) growth target to between 5.1 and 5.5 per cent, from the previous 5.5 to 5.9 per cent.

However, Bank Indonesia Deputy Governor Perry Warjiyo said there was no undue need to worry about the slowdown as it was caused mostly by external factors, which had hurt the country’s exports, rather than signaling any deterioration in Indonesia’s domestic fundamentals.

“Domestic demand and investments are still growing quite strongly,” Perry said. “This shows that [the slowdown] has not been caused by an overly tight monetary policy.”

BI embarked last year on the country’s most aggressive tightening cycle in the past eight years, as it added 175 basis points to its key interest rate to combat soaring inflation, current-account deficit and rupiah depreciation.

“The brunt of the tightening is likely to be felt in the economy in the second quarter when we expect growth to slow to 5 per cent,” Barclays economist Wai Ho Leong and currency strategist Hamish Pepper wrote in a research note after the rate announcement.

BI Governor Agus Martowardojo predicted that the current-account deficit — the major worry among investors — would stand at US$4.1 billion in the January-March period, equivalent to 2.06 per cent of GDP and relatively the same level compared to the previous quarter.

“With BI’s focus remaining on current-account management, we believe the bias will ensure that [the rupiah’s true effective exchange rate] continues to bolster export competitiveness and a trade surplus,” the Barclays economists said.

The rupiah rose slightly after the central bank reiterated its commitment to continue leaning toward a tight-bias monetary policy, a stance that would support the currency. The rupiah gained 0.1 per cent to close at 11,560 per US dollar in Jakarta on Thursday, rebounding from an earlier two-week low, according to Bloomberg.

Now there’s a growing consensus for the central bank to cut its key interest rate to support the decelerating economy, after BI’s rate of 7.5 per cent, its highest level in four years, had remained unchanged for six months.

“The sharper-than-expected slowdown has significant policy implications and will likely lead to policy makers abandoning further fiscal and monetary tightening,” said Nomura economist Lavanya Venkateswaran.

Indonesia’s economic growth, at an almost five-year low, fell far below policymakers’ expectations, with the government initially targeting a 6 per cent increase in GDP this year, as stated in the 2014 state budget.

In addition, Indonesia’s consumer price index (CPI) has been on a downward trajectory, with year-on-year inflation standing lower than the BI rate since March, providing a leeway for the central bank to hike its benchmark rate as the real interest rate in the economy has been positive for two consecutive months.

The CPI saw a 0.02 per cent deflation in April, taking year-on-year inflation during the month to 7.25 per cent, its lowest level in 10 months.

 

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