Indonesian Government Reacts to the Impact of Global Financial Turmoil

| Source: Bank Indonesia

Meanwhile, the IHSG experienced a sharp correction of 8.7 percent to end at 4,169.83 points on last Friday. Factors that caused the weak performance of Indonesia's benchmark stock index were both domestic and global. Domestically, the continued weakening of the rupiah is damaging investors' confidence in the prospects of the domestic economy. The downward spiral of the currency results in inflationary pressures which can make the central bank decide to raise its benchmark interest rate (BI rate) again, thus threatening to hollow Indonesia's economic growth this year. The BI rate has been raised twice in recent months from a record low 5.75 percent to 6.50 percent. On the global side, pressures on the rupiah have been rising ever since global funds have started to reverse their investment flows to emerging economies, including Indonesia, ahead of the possible end of the Federal Reserve's quantitative easing program in September.

Indonesia's government has announced four policy measures to support the domestic economy:

• The government will seek to improve the current account deficit and support the rupiah exchange rate.

• The government will support the people's purchasing power and economic growth by providing incentives through keeping its fiscal deficit at 2.38 percent.

• Through close cooperation with the central bank, the government will guard the purchasing power of the people and foster a low inflation rate. The government will also tackle inflation or volatile price movements by changing trading procedures.

• The government will take measures, including the simplifying of permits as well as single-window services, to increase and speed up investments in Indonesia.

The central bank of Indonesia (Bank Indonesia) also released a program, which is synchronized with the aforementioned government measures, that aims to improve the country's current account deficit. The content of Bank Indonesia's policy package can be read in this column.

In the end we can conclude that the government proved to be responsive to market conditions by formulating the package. However, the success of the package remains to be a big question mark. In fact, Bank Indonesia's revised inflation outlook for August from below the 1 percent mark to 1.3 percent indicates that - once again - targets of the government and Bank Indonesia have not been achieved, which will erode market players' confidence.

I expect that the movement of the IHSG will still be volatile next week. Market participants assume that, even with the declaration of the aforementioned policy changes, it will still be difficult to fix the country's economy in the short-term. Still, the announcements of the packages do bring some positive sentiments as it shows the government and central bank are taking their roles seriously. Moreover, several state-owned enterprises are able to limit the correction of the IHSG by buying back stocks.

However, risks are currently quite high and I believe that the market will only become more stable after the Federal Reserve has provided the market more clarity in September. The IHSG's support level is around 4,000 points. Moreover, a gap exists between 4,568 and 4,538, thus if the index gains then it is expected not to reach beyond that level.

David Sutyanto is a research analyst at Jakarta-based First Asia Capital


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