Indonesia’s interest rate cuts back in play

JAKARTA • Interest rate cuts are once again on the table in Indonesia.

With inflation and credit growth slowing, central bank governor Agus Martowardojo has spurred speculation he may resume policy easing to give a boost to South-East Asia’s biggest economy. Bank Indonesia (BI) has been on hold since its last reduction in October, but with the threat of capital outflows from higher US interest rates lessening, policymakers in Indonesia may be ready to ease again.

While most of the 28 economists surveyed by Bloomberg predict Martowardojo and his board will keep the benchmark rate at 4.75%, six are predicting a 25 basis-point cut yesterday. That’s the most number of economists calling for a reduction since the last move in October. Others, like ING Groep NV and Australia & New Zealand Banking Group, predict a move later this year.

Here are some of the arguments for and against a rate cut and other possible measures the central bank can take to ease policy:


Why Cut Now?

Consumer-price growth slowed to 3.9% in July from 4.4% in the previous month, remaining comfortably within the central bank’s 3% to 5% target band. Food prices rose at their slowest pace since at least January 2014, indicating moderate pressures from this key category.

“It doesn’t feel like there are any imminent price pressures but at the same time there is a realisation that growth needs to be encouraged,” said Rahul Bajoria, a senior economist  at Barclays plc in Singapore, who predicts a rate cut yesterday. “Is there room to cut rates by 50 basis points over the next six to 12 months? Yes, sure, as long as inflation remains under control and it looks like it is.”

Economic growth is another reason the central bank may want to cut. While the economy grew at a respectable pace of 5% last quarter, growth is still well short of President Joko Widodo’s 7% goal set when he took office three years ago. That’s despite six interest rate cuts last year.

The lower benchmark rate hasn’t translated into stronger credit growth. Bank loans rose 7.8% in June from a year ago, down from 8.8% in the previous month and compared to an average growth of more than 10% two years ago. 


Why Stay on Hold?

BI has been wary of triggering  further weakness in the currency by cutting interest rates at a time when  the US is tightening policy. The rupiah’s relative stability this year — it’s gained 0.9% against the dollar since  the beginning of January — has helped to keep inflation pressures at bay.

“The rupiah has underperformed its regional counterparts this year, which in a way is a policy easing, even if the impact on growth is likely to be limited as export growth of manufactured goods remains sluggish,” said Gundy Cahyadi, an economist at DBS Holdings Ltd in Singapore. “BI is set to  reiterate its commitment to maintain financial system stability, and the rupiah versus the dollar in particular.”

The currency gained 0.1% to 13,336 against the dollar as of 12:35pm in Jakarta yesterday.

BI may wait to see if forthcoming economic data justify lowering interest rates further. Martowardojo said earlier this month policymakers “aren’t closed to the possibility of easing” if inflation remains manageable, the currency is stable and the data is supportive.

“Current conditions allow some leeway,” said Joey Cuyegkeng, an economist at ING. “But confirmatory data may be needed to make BI more confident. We believe that lower August inflation is necessary for a September move.”


Other Easing Options?

The central bank could opt to tweak other measures to provide stimulus to the economy without reducing its benchmark interest rate. Among those are targeted macro-prudential easing, such as lowering the loan-to-value ratios for housing or reducing down payments for car loans, said Lavanya Venkateswaran, an economist with Nomura Holdings Inc in Singapore.

Another tool available to policymakers is the reserve requirement  for lenders. The central bank has already loosened rules this year on the amount of money commercial lenders must hold in reserves on a daily basis, allowing them more flexibility in managing liquidity. Since the beginning of July, banks have been allowed to hold a daily minimum of 5% in reserve, as long as the average over two weeks is at least 6.5%.

“We are basically of the view that  BI will leave its policy rate unchanged and will resort to other options to support growth,” Venkateswaran said. — Bloomberg