Bank Indonesia's rate cut shows its comfort with rupiah outlook

[JAKARTA] Indonesia's central bank surprised most economists on Tuesday by lowering interest rates, reflecting its relative comfort with the currency and inflation outlook.

The benchmark rate was cut by a quarter point to 4.5 per cent, with all but six of the 28 economists surveyed by Bloomberg predicting it would stay on hold. Bank Indonesia reduced borrowing costs six times last year, making it Asia's biggest rate cutter.

Governor Agus Martowardojo and his board had put policy easing on hold until now, concerned that tightening US monetary policy may spur outflows from emerging markets and undermine the currency. With the Federal Reserve sticking to gradual rate hikes in the face of subdued inflation, the rupiah has been relatively stable this year, gaining about 1 per cent against the dollar.

"The central bank probably thinks the financial system is now stronger and the impact of federal fund rate hikes would be marginal or could be managed by improving fundamental conditions in the Indonesian economy," said Josua Pardede, an economist at PT Bank Permata in Jakarta.

Bank Indonesia said the move was motivated by an improving inflation outlook and expectations of only one more US rate increase, delayed to later this year. Officials also cited the rupiah and current-account deficit remaining "manageable".

Indonesia follows central banks in India and Vietnam in easing monetary policy in recent months as low inflation gives policy makers in Asia room to provide stimulus to their economies. Six rate cuts last year in Indonesia had failed to spur economic growth above 5 per cent, while credit demand is still lackluster, enabling the central bank to restart its easing cycle.

"The rate cut from BI is a measured move, as it is coming on expectations of lower inflation, and reasonable growth," said Rahul Bajoria, an economist at Barclays Plc in Singapore, who had correctly predicted the decision. "We believe the central bank remains focused on maintaining financial stability, and any further easing will be done keeping that in mind."

Bank Indonesia sees inflation averaging about 4 per cent this year and below 3.5 per cent in 2018. Inflation slowed to 3.9 per cent in July from 4.4 per cent in June, remaining within the bank's target band of 3 per cent to 5 per cent.

The rate cut may spur consumer spending and help to boost sentiment for property and automotive stocks, said Jeffrosenberg Tan, head of strategy at Sinarmas Sekuritas. The Jakarta Composite Index, the nation's benchmark stock index, has jumped 11 per cent this year, reaching a record last week.

While Indonesia's economy is growing about 5 per cent, that's still short of President Joko Widodo's 7 per cent goal he set when he came to office three years ago. The central bank said loan growth, which slowed to 7.8 per cent in June, will average 8 per cent to 10 per cent this year. The economy is seen improving, expanding an estimated 5.1 per cent to 5.5 per cent in 2018, it said.

BLOOMBERG