Bank Indonesia (BI) has cut its current and future benchmark interest rates four times this year, most recently in June, by a total of 100 basis points, but most economists had expected the central bank to cut rates another time today to boost economic growth further.
But BI said it believed that the macroeconomy was stable, reflected by low and stable inflation that is within its target corridor, that the current account deficit was healthier and the exchange rate of the rupiah was relatively stable.
Although economic growth "remained limited" in the second quarter, BI said it expected growth to continue to gain momentum on the back of its looser policy, coupled with fiscal stimulus in the form of the government's tax amnesty bill and other measures.
Household consumption is seen improving, based on recent retail sales data and stronger car sales, while investment growth showed significant signs of improvement. Exports remain weak although several commodities showed early signs of recovery, BI said.
The BI confirmed its 2016 growth forecast of 5.0 to 5.4 percent, up from 4.8 percent in 2015. In the first quarter of this year, Indonesia's economy grew by an annual 4.92 percent, down from 5.04 percent in the previous quarter.
But BI also acknowledged that the global economy is expected to slow from uncertainty linked to Britain's exit from the European Union (EU), while China and India were also expected to grow slower. The impact of Brexit on the United States is expected to delay a further rate increase until the end of this year.
Indonesia's currency, the rupiah, has risen in response to an easing of uncertainty around the U.S. fed funds rate, the limited effect on financial markets from Brexit and positive sentiment around the government's tax amnesty bill that is estimated to bring in 165 trillion rupiah to the state.
The rupiah was trading at 13,111.7 to the U.S. dollar today, up 5.2 percent this year, with the BI also saying it had risen as non-resident capital inflows surged after a slight correction in response to Britain's vote to leave the EU.
Indonesia's headline inflation rate rose slightly to 3.45 percent in June from 3.33 percent in May, but this is the lowest rate during Ramadan for the past four years and within the BI's target of 4.0 percent, plus/minus 1 percentage point.
Core inflation also remained under control in line with limited domestic demand, appreciation of the rupiah and anchored inflation expectations, BI said. Core inflation in June rose to 3.49 percent from 3.41 percent.
Bank Indonesia issued the following statement:
"The BI Board of Governors agreed on 20-21th July to hold the BI Rate at 6.50%, while maintaining the Deposit Facility and Lending Facility rates at 4.50% and 7.00% respectively.
Bank Indonesia also maintained the BI 7-Day (Reverse) Repo Rate at 5.25% in line with the planned reformulation of the policy rate as announced on 15th April 2016. Therefore, the term structure of monetary operations is currently as follows:
Bank Indonesia believes that the macroeconomic stability remains stable, as reflected by low and stable inflation within the target corridor of 4±1%, a healthier current account deficit and relatively stable exchange rate. Monetary policy transmission through interest rate has continued to improve. Preparations for policy rate reformulation, which will come to effect on 19 August 2016, are underway. Moving forward, Bank Indonesia is assured that looser monetary and macroprudential policies will bolster economic growth momentum.
Bank Indonesia supports the implementation of the 2016 Tax Amnesty Law. The policy is expected to boost government’s fiscal capacity to finance development programs as well as potentially enhance national economic liquidity, which will then be utilized domestically for productive economic activities. Bank Indonesia will continue to conduct financial market deepening by introducing new investment and hedging products in the financial market, strenghten monetary management strategies, and encourage the real sector to make optimal use of repatriation funds. Bank Indonesia will also continue to coordinate with the government to ensure that the implementation of the Tax Amnesty Law, including the repatriation funds, can be beneficial to the national economy.
The global economy is predicted to expand more slowly in line with growing uncertainty after Britain’s exit from the European Union (Brexit). There is a risk that the global economic recovery will fall below the previous projection due to the majority leave vote at the recent Brexit referendum, which could undermine economic growth in advanced countries as well as several developing countries with strong trade ties to the UK and European Union. In addition to the UK and Europe, the economies of China and India, with a dominant export share in the region, are also projected to decrease. On the other hand, despite indications of economic gains in the United States, the impact of the Brexit on USD appreciation is expected to delay a further Federal Funds Rate (FFR) hike until the end of 2016. On commodity markets, the oil price rebounded as the US lowered production and supply disruptions occur in several countries. Looking ahead, the oil price is projected at a relatively low level in line with stubbornly weak demand. Conversely, the prices of several export commodities from Indonesia recorded gains, specifically coal and crude palm oil (CPO).
On the domestic front, national economic growth gained traction but remained limited in the second quarter of 2016. Household consumption was observed to improve, indicated by positive retail sales data during the approach to Eid-ul-Fitr and stronger car sales. Furthermore, investment growth, particularly non-construction investment, showed significant signs of improvement against a backdrop of government capital spending and procurement. In terms of the external sector, exports remained weak despite several commodities showing early signs of recovery. Moreover, economic growth in the upcoming periods is predicted to continue gaining momentum on the back of loose monetary and macroprudential policy, coupled with fiscal stimuli in the form of the tax amnesty bill along with a government inclined to spend. Consequently, Bank Indonesia projects economic growth for 2016 in the 5.0-5.4% range.
Indonesia’s trade surplus increased in June 2016 on gains in the non-oil and gas trade balance. Therefore, the trade surplus on June 2016 stood at USD0.90 billion, up from USD0.37 billion the month earlier. The increase stemmed from exports of non-oil and gas manufacturing products, such as electrical machinery/equipment, mechanical machinery/equipment and not knitted apparel and clothing. In general, Indonesia’s trade surplus was recorded at USD1.94 billion in Q2/2016, exceeding that posted in the previous period and supporting the projected current account deficit in the second quarter. On the other hand, non-resident capital flows to financial markets in Indonesia totalled USD7.3 billion as of June 2016, surpassing the total for the year in 2015 (USD5.1 billion). Consequently, the level of official reserve assets at the end of June 2016 stood at USD109.8 billion, equivalent to 8.4 months of imports or 8.1 months of imports and servicing public external debt, which is well above the international adequacy standards of three months.
The rupiah strengthened in June 2016 as uncertainty surrounding the proposed FFR hike eased, the limited effect of Brexit and positive sentiment increased on the tax amnesty bill. Point-to-point, the rupiah appreciated by an average of 3.4% (mtm) to a level of Rp13,213 per USD in June 2016. The impact of the Brexit on the rupiah was limited compared to other currencies and only temporary. The rupiah quickly rebounded on the positive perceptions held by investors concerning the domestic economic outlook in line with the ratification of the Tax Amnesty Act, improved macroeconomic stability and the expected delay to the FFR hike by the Federal Reserve. The rupiah also appreciated as non-resident capital inflows surged after a slight correction due to the Brexit. Bank Indonesia will continue, however, to maintain exchange rate stability in line with rupiah’s fundamental value.
Headline inflation during the holy fasting month of Ramadan remained relatively under control, supporting the 2016 inflation to stay within the target corridor of 4±1%. Inflation in June 2016 was recorded at 0.66% (mtm) or 3.45% (yoy), which is the lowest rate during Ramadan for the past four years due to the various policies instituted by the Government, coupled with close coordination between the Government and Bank Indonesia. All components contributed to inflation, particularly volatile foods (VF) and administered prices (AP). Volatile foods were affected by rising prices of food stuffs on growing demand during Ramadan. Meanwhile, administered prices (AP) climbed on higher airfares, intercity transportation fares and adjustments to electricity rates as the global oil price began to rebound. On the other hand, core inflation was controlled at 0.33% (mtm) or 3.49% (yoy) in line with limited domestic demand, rupiah appreciation and anchored inflation expectations.
The financial system was stable and the banking sector remain resilient. In May 2016, the Capital Adequacy Ratio (CAR) stood at 22.2%, while non-performing loans (NPL) were recorded at 3.1% (gross) or 1.5% (net). The loose monetary policy stance signalled by Bank Indonesia was transmitted to the economy through the interest rate channel, reflecting the banks’ proclivity to lower lending and deposit rates. In contrast, monetary policy transmission through the credit channel was not optimal, with limited credit growth reported despite moderate gains in May 2016. Credit growth in May 2016 was recorded at 8.3% (yoy), accelerating from 8.0% (yoy) the month earlier. On the other hand, deposit growth stood at 6.5% (yoy), up from 6.2% (yoy) the previous month. Bank Indonesia believes that the loose monetary and macroprudential policy, combined with implementation of the Tax Amnesty Act, to stimulate credit growth and foster sustainable economic growth."
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