Crunch time for Indonesia central bank as Fed prepares to raise

[JAKARTA] Indonesia's central bank will probably resist the vice president's call for lower interest rates this Thursday, when it reviews monetary policy just hours after a widely anticipated rate increase by the US Federal Reserve. The central bank, along with monetary authorities in the Philippines and Taiwan, will be among the first to hold a scheduled policy meeting following the US Federal Reserve policy decision on Wednesday.

Indonesia's Vice President Jusuf Kalla has been putting pressure on Bank Indonesia for a rate cut to support Southeast Asia's largest economy as inflation has slowed to within its target range for the first time this year. Yet policy makers are signaling they are not ready.

The rupiah has fallen around 12 per cent this year, the second-worst performer among major Asian currencies, and is forecast to drop further in 2016.

"The most difficult for thing for us to assess is the market reaction, or overreaction, to what is decided by the Fed," Bank Indonesia Deputy Governor Perry Warjiyo said in an interview on Friday. "We will continue, as we did, to guard the exchange rate. This is the commitment of the central bank."

All but one of 22 economists surveyed by Bloomberg News are predicting that Bank Indonesia will stay on hold for a ninth consecutive month, with one expecting a 25-basis-point cut in the reference interest rate, which is currently at 7.5 per cent. Many have penciled in a rate cut in early 2016.

CAUTIOUS APPROACH

"You probably want to err on the side of caution," said Taimur Baig, Asia chief economist at Deutsche Bank AG. "By February and March we will have a much better idea of what the underlying rate of inflation is. Maybe that will be the time for the central bank to act."

Mr Kalla told Bloomberg on Dec 2 the central bank was legally obliged to listen to the government's concerns about boosting growth and job creation. Indonesia's gross domestic product is expanding at its slowest rate since 2009.

Mr Perry said cutting interest rates would lead to further weakening of the rupiah, hurting the manufacturing sector because it heavily relies on imported goods. It would also make the government's tax collection efforts more difficult, he said.

The headwinds facing the economy were underlined on Tuesday when November trade data showed the country returned to a trade deficit for the first time in a year due to a continued slump in demand for its commodities. The rupiah closed at 14,058 a dollar on Tuesday, and is expected to weaken to 14,750 by the end of next year, according to a Bloomberg survey.

"You have to choose between lower interest rates or a stable exchange rate," Mr Perry said at a conference in Bali on Friday, as he sat next to Finance Minister Bambang Brodjonegoro. "You can't have the two. This is the situation we are facing."

BLOOMBERG