Indonesia fights Turkey contagion with rate hike

This article first appeared in The Edge Financial Daily, on August 16, 2018.
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INDONESIA’s central bank raised its benchmark interest rate a fourth time since May in a surprise move aimed at underpinning the currency as volatility sweeps across emerging markets.

The seven-day reverse repurchase rate was increased to 5.5% from 5.25% yesterday, as forecast by just seven of 28 economists in a Bloomberg survey, with the rest predicting no change. Governor Perry Warjiyo reiterated the central bank’s pledge to remain proactive and said the move was aimed at bolstering financial markets and curbing the current account gap.

Turkey’s crisis is adding to Indonesia’s woes, dragging down a currency that’s already been hit by an emerging-market rout triggered by higher US interest rates and a stronger dollar. Bank Indonesia has been among the most aggressive in Asia in tightening policy this year, raising rates by a total of 1.25 percentage points since mid-May.

“Bank Indonesia has reaffirmed its pre-emptive stance with another rate hike and more are likely to come,” said Charu Chanana, an economist at Continuum Economics in Singapore. “Warjiyo is doing all it takes to regain investor confidence and a reversal of outflows will come fast once the global volatilities subside.”

Authorities are stepping up action to curb the halt in the rupiah, which is one of Asia’s worst performers this year, down about 7% against the dollar. President Joko Widodo ordered import curbs on Tuesday to shore up foreign reserves, which have been drained by almost US$14 billion (RM57.4 billion) since January as the central bank stepped up intervention.

Outflow risk

A current account deficit of 3% of gross domestic product and a relatively high foreign ownership of government bonds make the economy vulnerable to outflows. Government data earlier yesterday showed the trade gap widened to a five-year high of US$2 billion in July, putting pressure on the current account and the rupiah.

“The decision is consistent with efforts to maintain the attractiveness of domestic financial markets and control the current-account deficit so that it will still be in the safe level,” Warjiyo said.

The Jakarta Composite Index reversed losses to gain 0.8% yesterday, while the yield on the 10-year government bond fell to 8% from 8.03% earlier. The rupiah fell 0.1% against the dollar, after initially gaining following the rate hike.

Economists said there are probably more rate hikes in store as emerging markets remain under pressure.

Global uncertainty

“We see that there is still a room for Bank Indonesia to increase the seven-day reverse repurchase rate as the risk of global financial market uncertainty and monetary tightening remains high until the end of this year,” said Andry Asmoro, an economist at PT Bank Mandiri.

Central banks in emerging markets from Argentina to India have tightened monetary policy to defend their currencies and curb inflation risks. The collapse in Turkey’s lira has added to the slump in investor sentiment, prompting Argentina’s central bank to take emergency steps on Monday by hiking its benchmark rate by five percentage points.

Indonesia’s strengthening economy is giving confidence to policymakers, with growth accelerating to a five-year high of 5.3% last quarter. Inflation remains within the central bank’s 2.5% to 4.5% target band.

“Global headwinds still have the potential to exert renwed pressure on the rupiah, but BI (Bank Indonesia) has shown that they are prepared to act to counteract it,” said Khoon Goh, head ofAsia research at Australia & New Zealand Banking Group Ltd. in Singapore. — Bloomberg