BI unexpectedly raises rates amid falling rupiah
Bank Indonesia (BI) raised its benchmark interest rate (BI 7DRRR) by 25 bps to 6.00% yesterday. This was above our expectations and the consensus. The benchmark is now at its highest level since June 2019. In tandem, the deposit and lending facility rates also rose to 5.0% and 6.5%, respectively. This rate hike serves the purpose of reinforcing the Rupiah exchange rate stabilization policy in response to mounting global uncertainty. It acts as a proactive and forward-looking measure to mitigate the impact of this uncertainty on imported inflation and to ensure that inflation remains within the target range of 3.0%±1% for 2023 and 2.5%±1% for 2024. Furthermore, BI will continue to stabilize the Rupiah exchange rate through interventions in the foreign exchange market in spot transactions and Domestic Non-Deliverable Forward (DNDF) transactions. Additionally, they will issue Indonesian Rupiah Securities (SRBI), Foreign Exchange Securities of Bank Indonesia (SVBI), and Foreign Exchange Sukuk of Bank Indonesia (SUVBI) as pro-market monetary instruments to deepen the money market and attract portfolio inflows. As of October 18, 2023, the Dollar Index (DXY) against major currencies rose by 2.60% YtD to 106.2, indicating a strong dollar. Despite its recent depreciation, the Rupiah remained one of the best performing emerging Asian currencies, propped up partly by Indonesia’s trade surpluses. Rupiah had depreciated by -1.03% YtD, settling at Rp15,730/USD. This is much stronger than Ringgit Malaysia, Baht Thailand, and Peso Philippines which depreciated by -7.23% YtD, -4.64% YtD, and -1.73% YtD, respectively. We believe that the current interest rate level is adequate for maintaining Rupiah stability, so we expect BI to retain the interest rate at 6.00% until the end of the year. Furthermore, we also anticipate that BI will cut the interest rate next year to 5.00%, in line with the easing of global uncertainty.
Macroprudential incentive to boost economic growth
In anticipation of the potential impact of increasing interest rates on economic growth, BI reinforces loose macroprudential policies. This is being achieved through the effective implementation of the Macroprudential Liquidity Incentive Policy (KLM) aimed at promoting increased bank lending and financing to priority sectors. These sectors encompass downstream industries (including mining, agriculture, plantations, and fisheries), housing, tourism, the creative economy, micro, small, and medium-sized enterprises (UMKM), the People's Business Credit (KUR), and green financing. Furthermore, BI is also maintaining its commitment to relax the Loan to Value/Financing to Value (LTV/FTV) ratio, allowing it to reach as high as 100% for all types of properties. Furthermore, BI is easing down payment requirements for motor vehicle loans/financing to a minimum of 0% for all categories of new motor vehicles. These measures are designed to stimulate credit growth in the property and automotive sectors while still considering prudential principles and effective risk management. We believe that these macroprudential incentive policies will contribute to economic growth amidst the upward trajectory of interest rates. Currently, we project economic growth to be 5.0% YoY for this year, decelerating compared to last year's economic growth rate of 5.3% YoY.
Managing forex reserves amidst global uncertainty
The trade balance continued to show a surplus through the 3Q23, totaling USD7.8 bn, adding to foreign exchange (forex) reserves. However, the increasing uncertainty in global financial markets triggered capital outflows in the form of portfolio investments during 3Q23, amounting to USD2.1 bn. The pressure on capital flows persisted into the fourth quarter of 2023, with net outflows reaching USD0.4 bn as of October 17, 2023. Meanwhile, BI reported the forex reserves position at USD134.9 bn as of September 2023, a decrease compared to the figure at the end of August 2023, which stood at USD137.1 bn. This decline in foreign exchange reserves can be attributed to factors such as government external debt payments and the necessity to stabilize the Rupiah's value as a precautionary measure amid the growing uncertainty in global financial markets. This foreign exchange reserve position is equivalent to financing for 6.1 months of imports or 6.0 months of imports and government external debt payments, and it exceeds the international adequacy standard of 3 months of imports. We believe that the current level of forex reserves is sufficient to maintain relative stability in the Rupiah throughout 2023. However, we also anticipate a further decrease in forex reserves this month due to government interventions aimed at preserving Rupiah stability in the face of potential capital outflows amidst global financial uncertainty.