Economics
Economics: BI Rate Held At 5.75%: Balancing Rupiah Stability And Growth Support
Analyst
Highlights
- BI held rates at 5.75%, defying consensus for a hike, citing rupiah stability, a weak domestic economy, and alternative currency-defense tools. The rupiah has been relatively stable near Rp18,000/USD amid bond-market inflows and a softer US dollar, while weak retail sales, soft consumer confidence, low private credit growth, and subdued inflation (3.28% yoy) argued against tightening.
- BI paired the hold with looser liquidity and stronger inflow incentives. It cut reserve requirements from 9% to 7% for conventional banks (with the KLM incentive trimmed from 6% to 5%), raised the deposit facility rate to 5.00% to curb money growth, and increased DNDF hedging discounts to 40% (6-month) and 45% (12-month) to attract foreign capital. Markets responded positively: The rupiah firmed just below Rp18,000/USD, 10-year bond yields edged lower, and the JCI strengthened.
- The outlook is challenging, with risks skewed toward outflows and eventual rate hikes. A possible MSCI downgrade to standalone market status, high oil prices, and rising US inflation pointing to Fed hikes in Dec 26 and 1Q27 could worsen sovereign risk premiums and pressure the Rupiah, leading to two 25 bps BI rate hikes in tandem with the Fed.
Analysis
- Bank Indonesia (BI) held its benchmark BI Rate at 5.75% at its Oct 26 Board of Governors meeting. The decision defied market consensus, which had expected a 25 bps hike to 6.00%, but aligned with our forecast of a hold. The move represents the latest step in BI's delicate balancing act, driven by several factors.
- First, the rupiah has been relatively stable, hovering around the Rp18,000/USD mark, with 30-day currency volatility low compared to peers. This stability was supported by significant capital inflows into Indonesia's financial markets – mostly into the bond market following the equity market rout since the MSCI announcement – as well as by global factors such as a weaker US dollar and declining US Treasury yields as investors began buying into the US bond market. Domestically, Indonesia's external balance improved slightly, as reflected in the rising trade balance in Aug 26.
- Second, the domestic economy remains relatively weak. Retail sales growth remains subdued, consumer confidence has softened, and privately owned banks have reported low credit growth, signalling weak private sector activity. Domestic inflationary pressure also remains subdued at 3.28% yoy in Sep 26. Third, BI retains other tools to defend the currency, including foreign currency intervention, hedging discounts, and SRBI bond yields (which are on a declining trend). Raising the policy rate while the economy is weak would only further drag on growth.
- Despite keeping the policy rate unchanged, BI unveiled several significant policy changes. First, the central bank reduced the reserve requirement (Giro Wajib Minimum) from 9% to 7% for conventional banks over the next two months and lowered the maximum macroprudential incentive (KLM) from 6% to 5%, effectively reducing the reserve requirement from 3% to 2%. This should benefit the banking sector, which has experienced tighter liquidity. However, the effect is partly offset by BI's move to raise the deposit facility rate from 4.75% to 5.00%, which reduces money growth and alleviates pressure on the rupiah.
Highlights
- BI held rates at 5.75%, defying consensus for a hike, citing rupiah stability, a weak domestic economy, and alternative currency-defense tools. The rupiah has been relatively stable near Rp18,000/USD amid bond-market inflows and a softer US dollar, while weak retail sales, soft consumer confidence, low private credit growth, and subdued inflation (3.28% yoy) argued against tightening.
- BI paired the hold with looser liquidity and stronger inflow incentives. It cut reserve requirements from 9% to 7% for conventional banks (with the KLM incentive trimmed from 6% to 5%), raised the deposit facility rate to 5.00% to curb money growth, and increased DNDF hedging discounts to 40% (6-month) and 45% (12-month) to attract foreign capital. Markets responded positively: The rupiah firmed just below Rp18,000/USD, 10-year bond yields edged lower, and the JCI strengthened.
- The outlook is challenging, with risks skewed toward outflows and eventual rate hikes. A possible MSCI downgrade to standalone market status, high oil prices, and rising US inflation pointing to Fed hikes in Dec 26 and 1Q27 could worsen sovereign risk premiums and pressure the Rupiah, leading to two 25 bps BI rate hikes in tandem with the Fed.
Analysis
- Bank Indonesia (BI) held its benchmark BI Rate at 5.75% at its Oct 26 Board of Governors meeting. The decision defied market consensus, which had expected a 25 bps hike to 6.00%, but aligned with our forecast of a hold. The move represents the latest step in BI's delicate balancing act, driven by several factors.
- First, the rupiah has been relatively stable, hovering around the Rp18,000/USD mark, with 30-day currency volatility low compared to peers. This stability was supported by significant capital inflows into Indonesia's financial markets – mostly into the bond market following the equity market rout since the MSCI announcement – as well as by global factors such as a weaker US dollar and declining US Treasury yields as investors began buying into the US bond market. Domestically, Indonesia's external balance improved slightly, as reflected in the rising trade balance in Aug 26.
- Second, the domestic economy remains relatively weak. Retail sales growth remains subdued, consumer confidence has softened, and privately owned banks have reported low credit growth, signalling weak private sector activity. Domestic inflationary pressure also remains subdued at 3.28% yoy in Sep 26. Third, BI retains other tools to defend the currency, including foreign currency intervention, hedging discounts, and SRBI bond yields (which are on a declining trend). Raising the policy rate while the economy is weak would only further drag on growth.
- Despite keeping the policy rate unchanged, BI unveiled several significant policy changes. First, the central bank reduced the reserve requirement (Giro Wajib Minimum) from 9% to 7% for conventional banks over the next two months and lowered the maximum macroprudential incentive (KLM) from 6% to 5%, effectively reducing the reserve requirement from 3% to 2%. This should benefit the banking sector, which has experienced tighter liquidity. However, the effect is partly offset by BI's move to raise the deposit facility rate from 4.75% to 5.00%, which reduces money growth and alleviates pressure on the rupiah.
Analyst
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