Bank Indonesia about Inflation and the Current Account Deficit
The central bank of Indonesia expects that Indonesia’s current account deficit will decline to below the three percent of gross domestic product (GDP) mark by the end of this year supported by sharply falling global oil prices and Indonesia’s recent subsidized fuel price hike. Hendar, Deputy Governor of the central bank, said that for every USD $1 decline in global oil prices, the country’s current account deficit narrows by about USD $170 million. Indonesia’s current account deficit fell to 3.1 percent of GDP in Q3-2014 (from 4.06 percent of GDP in Q2-2014).
Although Hendar’s statement implies that Indonesia’s current account deficit will only manage to improve slightly from last year’s USD $28.34 billion deficit (or 3.25 percent of GDP), it also means that the deficit will be back at a sustainable level (generally a current account deficit above 3 percent of GDP is considered unsustainable).
The wide current account deficit makes the country highly vulnerable in times of global shocks as investors lack confidence in the financial fundamentals of the country. Such a deficit means that the country is heavily dependent on foreign portfolio inflows to finance the current account. When the US Federal Reserve decides to raise its benchmark interest rate, it is expected to lead to severe capital outflows from emerging economies. Those emerging markets that show financial weaknesses, such as a wide current account deficit, are particularly susceptible to these outflows.
Last month, the Indonesian government decided to raise prices for subsidized fuels (low-octane gasoline and diesel) by more than 30 percent in an effort to ease pressures on the government budget deficit and the current account deficit, as well as to free-up funds for economic and social development. Hendar confirmed that, despite severe inflationary pressures in the short-term, the fuel price hike can lead to higher economic growth in the long-term provided that the government will use available funds for infrastructure development.
Current Account Deficit Indonesia (% of GDP)
Regarding inflation, which accelerated to 6.23 percent year-on-year in November 2014 amid higher prices for transportation and food products due to the impact of higher subsidized fuel prices, Hendar expects that the month-to-month pace will be back at a normal level in February 2015. Usually it takes about three months for inflation to stabilize after an administered price adjustment such as a subsidized fuel price hike.
In November 2014, inflation rose 1.50 percent month-to-month, lower than the initial expectation of Bank Indonesia.
Inflation in Indonesia:
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Source: Statistics Indonesia (BPS)