Bloomberg News

Indonesia Bets on Rate Cuts Aiding Growth as Inflation Eases

November 13, 2011

(Updates with comment from governor on rupiah in 10th paragraph.)

Nov. 11 (Bloomberg) -- Indonesia’s central bank is betting the threat to economic growth from the European debt crisis outweighs the risk that yesterday’s cut in interest rates to a record low will fuel inflation.

Bank Indonesia lowered the reference rate by half a percentage point to 6 percent, it said in a statement in Jakarta, confounding all 19 economists surveyed by Bloomberg News. Eight had predicted a quarter-point reduction after a similar move last month, and the rest no change. The cut is the biggest since March 2009.

The world’s fourth-most populous nation is among countries from Brazil to Australia that have lowered borrowing costs as the global economy falters. The rupiah extended its decline after the decision, underscoring concern that a weakening currency may boost import costs.

“The bias of the BI is to do more rate cuts,” said Euben Paracuelles, a Singapore-based economist at Nomura Holdings Inc. “But they are unlikely to be as aggressive from here on, unless the situation in Europe deteriorates much more sharply.”

The rupiah weakened 1.1 percent to 8,983 per dollar yesterday, according to prices from local banks compiled by Bloomberg. The Jakarta Composite Index of stocks pared losses after the central bank’s move, closing down 1.9 percent. The rupiah has slid about 5 percent in the past three months, and the central bank said in October it has sufficient foreign- exchange reserves to defend it.

Global Risks

The rate cut aims to minimize the impact of worsening global economic prospects on the nation’s expansion, Bank Indonesia said yesterday. Inflation this year may be at the lower end of the target of 4 percent to 6 percent, while gross domestic product may rise 6.5 percent, it also said.

The decision took account of the rupiah’s level, said Difi Johansyah, a central bank spokesman. The currency has weakened because of “external factors,” not just lower rates, he said.

Further declines in the rupiah threaten to stoke the cost of imported goods, complicating the task of containing inflation and dimming the allure of Indonesian assets.

Bank Indonesia’s combined total cut of 75 basis points in October and November is “too aggressive” given its GDP forecasts, Ho Woei Chen, a Singapore-based economist at United Overseas Bank Ltd., said in a note. It may increase the risk of capital outflows and affect the rupiah, which “has been an important anchor for domestic inflation,” she said.

‘Too Much Insurance’

All emerging markets have experienced currency depreciation and Bank Indonesia had expected the reaction to its rate cut, Governor Darmin Nasution said in Jakarta today. The country’s benchmark rate that was higher than other emerging markets’ also prompted the move to lower borrowing costs, he said. The rupiah was little changed today after yesterday’s decline.

The central bank “has taken out too much insurance against slower growth, in our view, which poses risks to price stability,” said Leif Eskesen, a Singapore-based economist at HSBC Holdings Plc. “Even so, further rate cuts cannot be ruled out.”

Europe is struggling to control its sovereign-debt woes even after bailing out Greece, Ireland and Portugal, as contagion spreads to Italy.

‘Dangerous Phase’

The global economy is in a “dangerous phase,” Christine Lagarde, the managing director of the International Monetary Fund, said in Beijing earlier this week. Some Asian nations should pause on monetary tightening, she said, without identifying any.

The Bank of Korea held off from raising borrowing costs today for a fifth straight month, as Governor Kim Choong Soo and his board kept the benchmark seven-day repurchase rate at 3.25 percent. Eighteen of 19 economists surveyed by Bloomberg News predict Bank Negara Malaysia will leave its key rate unchanged at 3 percent for the third straight meeting today, with one expecting a quarter-point cut.

The Reserve Bank of Australia cut interest rates to 4.5 percent from 4.75 percent on Nov. 1, the first reduction since 2009. Brazil’s central bank cut borrowing costs by half a point for a second straight meeting in October. The European Central Bank unexpectedly lowered its benchmark rate on Nov. 3.

Aiding Expansion

Indonesia left rates unchanged for seven straight months before October’s cut, which was the first in more than two years. That stance helped sustain the nation’s pace of expansion, in contrast to slowing growth elsewhere in Asia.

Gross domestic product in Southeast Asia’s largest economy rose 6.54 percent in the three months through September from a year earlier, compared with a revised 6.52 percent in the second quarter, a report showed earlier this week.

The government has said it’s preparing a stimulus package that it may implement in the first half of 2012 if the global economy worsens and hurts the nation’s expansion.

Inflation eased to 4.42 percent in October, a 17-month low, as the administration holds off from removing fuel subsidies this year, helping cool consumer prices.

PT Bank Mandiri, Indonesia’s biggest bank by assets, has said low borrowing costs are helping to drive demand for credit, contributing to a 43.5 percent climb in its net income in the nine months through September from a year earlier.

Companies such as Toyota Motor Co. and Unilever NV are among those investing in the $707 billion economy. President Susilo Bambang Yudhoyono is aiming for annual average GDP growth of 6.6 percent through the remainder of his term ending in 2014, partly by boosting spending on roads, railways and ports.

The central bank wants banks to adjust their lending rates and incorporate the lower benchmark rate, Nasution said today.

--With assistance from Hidayat Setiaji and Berni Moestafa in Jakarta. Editors: Sunil Jagtiani, Paul Panckhurst

To contact the reporter on this story: Novrida Manurung in Jakarta at nmanurung@bloomberg.net; Widya Utami in Jakarta at wutami@bloomberg.net

To contact the editor responsible for this story: Paul Panckhurst at ppanckhurst@bloomberg.net


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