Just as slowing inflation seemed to have opened the door for Bank Indonesia to cut interest rates, the tumultuous start to the year in China may make policy-makers think twice.
Central bank Governor Agus Martowardojo told reporters in Jakarta on Friday that he would prioritize stability, a shift in tone from Bank Indonesia’s December statement that the room to loosen was “getting bigger.” Even so, nine of 15 economists surveyed by Bloomberg forecast benchmark borrowing costs will be lowered to 7.25 percent on Thursday, with the rest expecting them to be held at 7.5 percent. A premature cut could weaken the rupiah, which has fallen 0.5 percent this year, following a 10-percent drop in 2015.
“They would be advised, for the protection of the currency, to wait a little bit longer,” said Ray Farris, head of Asia macro strategy at Credit Suisse Group AG in Singapore. “It would be very useful to have a couple of months of data that say the economy is beginning to pick up and, potentially, to get some
equity inflows associated with some positive surprises.”
Indonesia’s central bank is coming under political pressure to cut borrowing costs to stimulate an economy that is forecast to have grown at the weakest rate since 2009 last year. While inflation was the slowest since at least 2010 last December, last week’s plunge in Chinese stocks and the yuan threatens to ignite a regional currency war and has raised concern Asia’s largest economy may be in worse shape than previously thought.
Coordinating Minister for Economic Affairs Darmin Nasution, a former central bank governor, has been invited to attend the two-day policy meeting that starts on Wednesday, the monetary authority said in a statement. Such a move is allowed by law, but the minister won’t have any voting rights.
The yuan has fallen 1.2 percent this year as China’s central bank weakened its daily fixings, providing a fresh headwind for Asian exchange rates that rallied after the Federal Reserve (the Fed) promised last month to tighten only gradually when it raised rates for the first time in almost a decade.
The calm that prevailed following the Fed’s move has been shattered by China, said Wellian Wiranto, an economist at Oversea-Chinese Banking Corp. in Singapore. There is still some hope that the market will start to stabilize this week, he said.
Sacrificing growth
The economy probably expanded 4.73 percent in 2015, missing the 5.7- percent budget target, the Finance Ministry said this month. Growth of 5.2 percent is forecast for this year, according to a Bloomberg survey.
Inflation slowed to 3.35 percent last December, from 4.89 percent last November, after exceeding the central bank’s 3-percent to 5-percent target range since October 2014.
The rupiah has strengthened 0.7 percent against the dollar last month in the best performance in emerging-market Asia. That’s a reversal of fortune for a currency that dropped 34 percent over the four years through 2015.
Indonesia’s central bank will cut on Thursday as it has been sacrificing growth for rupiah stability, which has made the country’s government bonds Asia’s most attractive carry trade, Tim Condon, head of research at ING Groep NV in Singapore, wrote in a research note on Monday. The Dutch lender sees the key rate at 6.5 percent by year-end.
Bank Indonesia will be one of the first regional authorities to lower borrowing costs this year and will move in either January or February, according to an Australia and New Zealand Banking Group Ltd. research note released on January 8 by Glenn Maguire, chief economist for Asia Pacific in Singapore. An index of rupiah sovereign bonds, which jumped the most in 10 weeks on the day of the monetary authority’s statement last December, rose 0.9 percent over the last three months.
Rupiah stability
There is no urgent need to cut rates and a stable rupiah is arguably more important for growth, according to a DBS Bank Ltd. research note on Monday by analysts including Gundy Cahyadi in Singapore. At a time when there is talk of a currency war cutting borrowing costs may send the wrong signal, he wrote.
Bank Indonesia has held its benchmark interest rate at 7.5 percent since lowering it from 7.75 percent last February. The economy is dependent on inflows to finance a persistent current account deficit and reductions in borrowing costs could weaken the rupiah and reduce the allure of local currency sovereign bonds that attracted 97.2 trillion rupiah ($7 billion) of inflows last year. That offset a $1.6-billion outflow from equities.
“While the latest inflation and external balance data indicate that the time is ripe for monetary easing, the rupiah’s stability could be the last piece of the puzzle,” said Takahide Irimura, a senior economist at Mitsubishi UFJ Kokusai Asset Management Co. in Tokyo. “Given the volatility triggered by China, there’s a higher possibility Bank Indonesia will stay on hold again.”