Bank Indonesia Keeps Key Interest Rate at 4.75% in May 2017, Analysis
The central bank of Indonesia (Bank Indonesia) maintained its benchmark interest rate - the 7-day reverse repurchase rate - at 4.75 percent at the policy meeting on 17-18 May 2017, a decision that is in line with analysts' forecasts. Bank Indonesia said the decision is consistent with its efforts to maintain macroeconomic and financial system stability "by driving the domestic economic recovery process", while continue to monitor external threats stemming from US policy directions and geopolitical conditions, specifically in the Korea Peninsula, as well as domestic threats stemming from inflationary pressures and ongoing consolidation in the banking and corporate sectors.
Meanwhile, Bank Indonesia kept its Deposit Facility and Lending Facility rates at 4.00 percent and 5.50 percent, respectively, effective per May 19, 2017.
There remains plenty of external uncertainty that can suddenly impact on emerging market economies and therefore some caution is required in terms of Indonesia's monetary policy. External uncertainty includes more looming Fed Fund Rate (FFR) hikes, US fiscal and trade policies, the new scandals that involve US President Donald Trump (mainly involving his Russia ties and interference in a FBI investigation), planned reduction to the Federal Reserve's balance sheet as well as geopolitical conditions in various regions, especially the Korea Peninsula.
Domestically, there is the risk of rising inflationary pressures due to the impact of adjustments to administered prices (electricity tariff adjustments) on inflation, coupled with ongoing consolidation in Indonesia's banking and corporate sectors.
Despite the above-mentioned risks, global economic growth is improving on the back of stronger growth in the USA (driven by solid consumption), China (stronger private investment and export), Europe (improving manufacturing sector, consumption and export as well as reduced concern about the stability of the European Union after Macron won the French presidential election) and Japan (accelerating GDP in Q1-2017 as well as rising domestic demand and exports).
Meanwhile, Indonesia's economic growth accelerated in the first quarter of 2017 to a growth pace of 5.01 percent year-on-year (y/y), up from 4.94 percent (y/y) in the preceding quarter, and up from 4,92 percent (y/y) the same period one year earlier. Export and government expenditure recorded ample growth. Stronger exports are mainly caused by the improvement in global commodity prices such as coal and rubber, as well as global economic growth. Government capital and expenditure may improve investment, specifically building investment, as government infrastructure projects continued. Regionally, national GDP growth was supported by economic momentum on the islands of Java on the back of investment, and Kalimantan on the back of export. However, slower growth was recorded in Sumatra due to lower investment and inter-region trade, while a decline in mining exports caused slower pace of growth in Sulawesi, Maluku, Papua, Bali and Nusa Tenggara.
Regarding full-year 2017, Bank Indonesia expects Indonesia's GDP to grow in the range of 5.0 - 5.4 percent (y/y), supported by stronger exports and investment as well as tenacious consumption.
Indonesia's balance of payments (BoP) recorded another surplus in Q1-2017. The BoP surplus stood at USD $4.5 billion in this period, relatively unchanged from the previous quarter but much better compared to the USD $0.3 billion deficit posted one year ago. Foreign capital flow was large enough to elevate the capital and financial account surplus to USD $7.9 billion. Meanwhile, the nation's current account deficit was recorded at USD $2.4 billion mainly due to deficits in the oil and gas trade balance and primary income account, which are larger than the increase of Indonesia's non-oil and gas trade. The oil and gas trade deficit expanded as the global oil price increased against a backdrop of less lifting, while the larger primary income account deficit stemmed from higher scheduled interest payments on government debt.
Consequently, the position of Indonesia's foreign exchange reserve assets at the end of the first quarter of 2017 stood at USD $121.8 billion, rising thereafter to USD $123.2 billion in April 2017, equivalent to 8.9 months of imports or 8.6 months of imports and servicing government external debt, which is well above the international standard of three months.
The Indonesian rupiah appreciated throughout the first quarter of 2017, appreciating 1.1 percent to IDR 13,326 per US dollar, and remained relatively stable in April 2017. Rupiah strength was driven by maintained non-resident capital inflows after the sovereign rating outlook was upgraded, solid macroeconomic data and positive sentiment regarding the domestic economic outlook. As such tensions surrounding the Jakarta gubernatorial election and Jakarta governor's Ahok blasphemy case had limited impact in the aforementioned period.
Headline inflation in Indonesia is under control remaining within the central bank's target ranger for 2017 at 3 - 5 percent (y/y). The Consumer Price Index (CPI) recorded inflation of 0.09 percent (m/m) or 4.17 percent (y/y) in April 2017. Administered prices were cited as the main contributor to CPI inflation, as phase II of the adjustments to electricity rates for non-subsidized 900-VA subscribers, higher airfares as well as rising petrol and cigarette prices drove AP inflation to 1.27 percent (m/m) or 8.68 percent (y/y). Low core inflation was recorded at 0.13 percent (m/m) or 3.28 percent (y/y), in line with limited domestic demand, anchored inflation expectations and rupiah appreciation. In contrast, volatile foods experienced deflation of 1.26 percent (m/m) or 2.66 percent (y/y) due to abundant supply in the wake of the harvesting season.
Maintained banking industry resilience and stable financial markets continued to support Indonesia's solid financial system. In March 2017, the Capital Adequacy Ratio (CAR) of the banking industry was recorded at 22.7 percent and the liquidity ratio at 22.0 percent, while non-performing loans (NPL) stood at 3.0 percent (gross) or 1.3 percent (net). The transmission of easing monetary and macro-prudential policy continued to improve, albeit restrained by the banks' prudence in managing credit risks. Credit growth in March 2017 was recorded at 9.2 percent (y/y), up from 8.6 percent (y/y) in the preceding month, boosted by the increase of forex and corporate loans. Furthermore, stronger credit growth is expected to persist as economic activities gain traction. Deposit growth in March 2017 stood at 10.0 percent (y/y), accelerating from 9.2 percent (y/y) one month earlier. Congruent with the expected economic gains and ongoing impact of monetary and macro-prudential policy easing, credit and deposit growth are predicted to accelerate to 10-12 percent and 9-11 percent, respectively in full-year 2017.
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