Indonesia: Bank Indonesia holds rates again in June amid rising inflation and a weakening rupiah
June 18, 2015
At its 18 June monetary policy meeting, the Central Bank decided to hold the BI policy rate at 7.50%, as expected by the market. This marks the fourth straight meeting with no change to the policy rate after a surprise 25 basis point cut in February. The Bank refrained from cutting its main interest rate this month, given rising inflation and a depreciating currency. Moreover, the decision highlights that the Bank has limited maneuverability to stimulate the slowing economy. The Bank also maintained the deposit facility rate at 5.50% and lending facility rate at 8.00%.
Bank Indonesia explained that economic growth should remain limited in the second quarter. Export growth is under pressure due to the sluggish global economic recovery and low commodity prices. Investment is limited amid a slow implementation of new infrastructure initiatives. However, the Bank expects growth to improve in the second half of the year as household consumption strengthens and government investment picks up in line with infrastructure projects. Growth for the full year is projected to come in between 5.0% and 5.4%, although the Bank stated that an acceleration in government spending and the realization of infrastructure development is crucial for growth.
The Bank pointed out that annual inflation increased from 6.8% in April to 7.2% in May. Inflation was up on higher prices for food and administered goods, although core inflationary pressures remained under control. Looking ahead, the Bank expects inflationary pressures to rise, due in part to the Ramadan festivities. However, the Bank is confident that its inflation target corridor of 4.0±1.0% for 2015 can be achieved.
In terms of currency developments, the rupiah depreciated against the U.S. dollar in May after having recovered some ground in April. The depreciation is mainly driven by a broad strengthening of the dollar against global currencies and the European Central Bank’s stimulus program. The Bank asserted in earlier meetings that a weaker rupiah will benefit the current account deficit through lower imports of consumer goods and greater export competitiveness, but held back on an interest rate cut this month to avoid an excessive depreciation.
Regarding the external sector, the trade balance recorded another surplus in May as non-oil imports declined at a faster pace than non-oil exports. The oil and gas component of the trade balance experienced a similar trend, with imports falling more than exports. Meanwhile, foreign capital inflows have come under pressure amid increased uncertainty in global financial markets. The Bank expects the current account to be around 2.5% of GDP in Q2.
Author: Carl Kelly, Economist