The central bank of Indonesia (Bank Indonesia) has made some important decisions under the current Governor Agus Martowardojo. Here, Bank Indonesia has been directed toward achieving the responsibility of making financial decisions that promote consumer price stability over the long-term. This has resulted in widespread gains in the rupiah against a basket of world currencies -- including the US dollar. But recent rate cuts now have the potential to reverse these broader trends.
Recently, after its meeting on 16 June, the central bank of Indonesia announced an unexpected cut in its benchmark interest rate, citing a narrowing account deficit, benign inflation, and relative currency stability. This decision created the fourth rate cut during this financial year (effectively cutting the benchmark interest rate, also known as BI Rate, from 7.50 percent at the year-start to 6.50 percent) as the central bank aspires to promote and maintain economic growth. Rate cuts are generally bearish for a currency, so this is something that could change the long-term trends in the USD/IDR.
Chart View: USD/IDR (easyMarkets)
Maintaining Growth Rates
In a bid to attain 5.3% economic growth, Bank Indonesia cut the benchmark rate from 7.50% to 6.50%. Moreover, the monetary authority also went further to slash its lending facility rate and facility rate for overnight deposits to 7% and 4.5%, respectively. Down payment requirements for the purchase of property were also set lower. This move is seen to be a gradual, yet very aggressive move as the bank has been under pressure from the government since 2009 to revive economic growth.
The sudden change in rates (in January 2016) came just one day after the Jakarta attacks, which helped trigger additional financial market turmoil. Though the impact on currency markets is predicted to be temporary, economists from the bank put forward the idea that the benefits from this loose monetary policy are likely to be felt in the final months of this year.
In a statement to the public, Bank Indonesia stated that with the country’s tax amnesty strategy program in place, the rupiah is set to gain favor in the foreign exchange market. This could reverse any losses that were seen after the rate decrease and terror attacks, which will in turn boost the country’s reserves of foreign exchange. A slight improvement in domestic growth has already been observed for the second quarter of 2016, with the currency maintaining stability and the national trade balance recording a surplus.
According to the bank, the loose monetary policies are in support of earlier policies such as the lower reserve requirement ratio and easing macro-prudential policies should continue to support regional growth. In addition to that, the Bank of Indonesia’s focus is on maintaining stability of the local currency and the gradual momentum in financial growth.
This column was written by Richard Cox, university teacher in international trade and finance, focusing on lessons in macroeconomics and price behavior in equity markets.