Rupiah & Stocks Weaken Ahead of Bank Indonesia Policy Meeting
Investors are clearly waiting for results of Bank Indonesia’s Board of Governor’s Meeting, conducted today (19/05). In this monthly policy meeting, Indonesia’s central bank will decide on its monetary approach. For most market participants it is of crucial importance to learn whether Bank Indonesia will adjust its interest rate policy in order to support the country’s economic growth (which slowed to a five-year low in the first quarter of 2015). Ahead of results, scheduled to be released this afternoon, Indonesian stocks and the rupiah weaken.
After the Indonesian stock market opened this morning, stocks immediately fell more than 0.30 percent. However, by 11:43 am local Jakarta time stocks had somewhat recovered but were still down around 0.17 percent. Meanwhile, the Indonesian rupiah had depreciated 0.24 percent to IDR 13,170 per US dollar according to the Bloomberg Dollar Index by 11:43 am local Jakarta time.
Both the government and business players have requested Bank Indonesia to cut interest rates (particularly its benchmark BI rate) in order to support accelerated economic growth (although the main tasks of the central bank are to safeguard currency stability and inflation). Indonesia’s GDP slowed to 4.71 percent (y/y) in Q1-2015 amid weak export performance (caused by sluggish global economic growth and related falling commodity prices), the high domestic interest rate environment with its BI rate at 7.50 percent (causing slowing domestic economic activity), and weak government spending (as it took until February for the revised government budget to be approved by the House of Representatives).
However, Bank Indonesia officials have emphasized that the central bank is an independent institution and as such cannot be influenced by pressures from the government (to cut interest rates). In fact, Bank Indonesia Governor Agus Martowardojo stated that the central bank will maintain a tight monetary stance. However, markets may not be fully convinced by Martowardojo’s words as in February 2015 the central bank made a surprise 25 basis points interest rate cut, a move few saw coming. Now again most analysts agree that Bank Indonesia will leave its interest rate policy unchanged as financial stability of Indonesia can be weakened if the central bank decides to cut its interest rates today. How can an interest rate cut jeopardize Indonesia's financial stability?
• Inflation accelerates; as the country’s economic growth pace is higher than economic growth in most other countries, Indonesia’s inflation rate is (traditionally) higher as well. Bank Indonesia initially targeted an inflation rate of between 3.5 percent and 4.5 percent (y/y) in 2015. However, after seeing petroleum prices recover in the first quarter of 2015, the central bank adjusted its inflation outlook to the range of 4.0 percent to 4.5 percent (y/y). Indonesian inflation accelerated to 6.79 percent (y/y) in April 2015 due to higher fuel costs. Moreover, inflationary pressures are expected to heighten in the next couple of months as the holy Islamic fasting month Ramadhan is set to start in July and the new school year kicks in shortly after. These are seasonal happenings and therefore Indonesian inflation always peaks in the June-August period (the other seasonal peak is December-January). A higher interest rate is monetary strategy to combat inflation. As such, ahead of looming accelerating inflation the central bank may not be too excited to cut the interest rate.
Inflation in Indonesia:
| Month | Monthly Growth 2013 |
Monthly Growth 2014 |
Monthly Growth 2015 |
| January | 1.03% | 1.07% | -0.24% |
| February | 0.75% | 0.26% | -0.36% |
| March | 0.63% | 0.08% | 0.17% |
| April | -0.10% | -0.02% | 0.36% |
| May | -0.03% | 0.16% | |
| June | 1.03% | 0.43% | |
| July | 3.29% | 0.93% | |
| August | 1.12% | 0.47% | |
| September | -0.35% | 0.27% | |
| October | 0.09% | 0.47% | |
| November | 0.12% | 1.50% | |
| December | 0.55% | 2.46% | |
| Total | 8.38% | 8.36% | -0.08% |
Source: Statistics Indonesia (BPS)
Inflation in Indonesia 2008-2014:
| 2008 | 2009 | 2010 | 2011 | 2012 | 2013 | 2014 | |
| Inflation (annual percent change) |
9.8 | 4.8 | 5.1 | 5.4 | 4.3 | 8.4 | 8.4 |
Source: World Bank
• Current account deficit still wide; a relatively high interest rate environment is also a tactic to combat the current account deficit as domestic purchasing power weakens hence imports should be curtailed (the current account deficit signals that Indonesia is spending more on international trade than is earning from it). Although Indonesia’s current account deficit improved to 1.8 percent of gross domestic product (GDP) in Q1-2015 (a USD $3.8 billion deficit in absolute terms), the central bank still expects that the full-year deficit will be about 3 percent of GDP. The 3 percent of GDP deficit is widely regarded as the boundary between a sustainable and unsustainable current account deficit. A wide deficit is also reason for investors to quickly dump the country’s assets in times of economic turmoil. The higher the deficit, the more capital outflows from Indonesia can emerge. As such it is important for the country to limit the current account deficit ahead of further looming monetary tightening in the USA (higher US interest rates) as it can limit the amount of capital outflows.
• Depreciating rupiah; the Indonesian rupiah has been one of the worst performing Asian currencies so far in 2015 (against the US dollar) and a BI rate cut will put more depreciating pressures on the rupiah. Since the start of 2015, Indonesia’s currency weakened about 5.5 percent against the greenback. Since the US Federal Reserve started to tighten its monetary policy (scrapping the quantitative easing program) there has been bullish US dollar momentum worldwide. High currency volatility has continued into 2015 as markets are unsure when the Federal Reserve will continue to tighten its monetary approach. At this moment many analysts expect to see higher US interest rates in September. However, this move is US data-dependent and due to mixed US macroeconomic data uncertainty about the exact timing of the Fed Fund Rate hike remains.
Bank Indonesia's benchmark rupiah rate (Jakarta Interbank Spot Dollar Rate, abbreviated JISDOR) depreciated 0.51 percent to IDR 13,183 per US dollar on Tuesday (19/05).
Indonesian Rupiah versus US Dollar (JISDOR):
| Source: Bank IndonesiaIn the preceding Board of Governor’s Meeting, Bank Indonesia maintained its BI rate at 7.50 percent, the deposit facility rate at 5.50 percent and lending facility rate at 8.00 percent.
Lastly, the central bank has other strategies to increase liquidity in the financial markets (other than cutting its benchmark interest rate). Previously Bank Indonesia stated that it may relax the loan to deposit ratio (LTD ratio) which means that banks’ credit growth has more opportunity to increase.