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Indonesia's central bank keeps policy rate unchanged

Publication Date : 09-04-2014


The central bank of Indonesia has kept its policy rate unchanged for the fifth consecutive month after inflationary pressures eased, bringing the country’s real interest rate into positive territory for the first time in almost a year.

Bank Indonesia's (BI) six-man board of governors led by Agus Martowardojo decided on Tuesday to hold the BI rate at 7.5 per cent, a level it has been at since November, citing positive developments in the economy, such as the decline in inflation and the latest trade-surplus figures.

In its statement, the central bank stated it would remain vigilant about external risks stemming from China’s economic slowdown and the planned tapering of the US monetary stimulus, though BI argued that overall Indonesia’s domestic economy was already in a “favorable” condition and strong enough to buttress such external threats.

Inflation fell to 7.32 per cent last month, meaning that the real interest rate in the economy — the gap between the benchmark interest rate and inflation — was positive for the first time since June, when the adjustment in fuel prices drove up inflation to exceed the BI rate.

The central bank’s decision to keep the BI rate unchanged might be driven by the fact that “real rates are inching back into positive territory again”, noted Wellian Wiranto, an economist with OCBC Bank in Singapore.

“Still, as much as there is a temptation to declare ‘Mission Accomplished’, BI would have to remain vigilant about a number of potential risk factors on the horizon,” he wrote in a research note on Monday.

In its quarterly economic report released last month, the World Bank also noted that the current BI rate of 7.5 per cent was already close to the prudent point to both stabilize the economy and support growth, as estimated by an economic theory called Taylor’s rule.

As inflation is expected to fall to around 5 per cent in mid-year, while the BI rate now stands at 7.5 per cent, the real policy rate should already be at a “relatively high” level, according to Credit Suisse economist Robert Prior-Wandesforde. That should give room for a 100-basis-point rate cut to 6.5 per cent which could be performed gradually into the second half of 2015, he said.

However, other analysts cautioned BI that a hasty interest rate cut might be too risky for the economy, especially at a time when the global financial market is still clouded by many uncertainties, posing threats of sudden capital outflows.

“There is again very little need for BI to rock the boat,” said Wellian from OCBC. “The greater risk which we have highlighted before is that the central bank might actually face increasing pressure to cut rates, coming from those with the misguidedly myopic view that inflation has come down.”


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