Indonesian central bank surprises with rate hike as rupiah nears five-year low

Indonesia's central bank surprised market watchers on Wednesday, hiking its main policy rate unexpectedly, despite what some economists said was a backdrop of continued weak economic growth and subdued inflation.

Rate-setters in Jakarta raised the seven-day reverse repurchase rate by 25 basis points to 5.50%, raising the rates on their deposit and lending facilities by an equal amount to 4.75% and 6.25%, respectively.

That, Gareth Leather at Capital Economics said, showed that Bank of Indonesia's main focus was on supporting the currency.

As of 1147 BST, the Greenback was dipping by 0.05% to 14,576.50 against the Asian country's currency, the rupiah, but remained 9.1% higher for over the past 12 months and just off its strongest level for the last five years.

"The authorities are worried about currency weakness because of the relatively high level of foreign currency debt in the country (which is equivalent to around 30% of GDP)," Leather explained.

Combined, rising US Treasury yields and the escalation in the trade spat between Beijing and Washington would keep the Rupiah on the back foot, he added, even if the "crisis" in Turkey began to fade.

Indeed, in their policy statement, Indonesian policymakers referenced both factors, as well as the risk of spillover effects from Turkey.

"Global uncertainty has also been fuelled by the risk of spillovers from the economic shocks in Turkey caused by domestic economic fragilities and the adverse impact of negative sentiment surrounding the authorities’ policies, as well as looming tensions with the US.

"Bank Indonesia will remain vigilant of the external risks, including potential spillover from Turkey although sound economic fundamentals in Indonesia are indicative of solid national economic resilience, coupled with avowed policy commitment," the statement read.

As he waited for the central bank's policy statement, following Wednesday's action, Leather added: "for now it seems unlikely that today's rate hike will mark the last in the current cycle."

For his part, Mitul Kotecha at TD Securities said: "While today's hike will likely help to provide some short term support to the IDR as well as Indonesian bonds, its trajectory over coming days will largely depend on external factors, in particular developments in Turkey, even with a slightly stronger interest rates buffer.

"The background of US/China trade tensions, Fed rate hikes and a stronger USD, also suggest persistent pressures."

According to the central bank, the year-on-year rate of growth in the country's gross domestic product stood at 5.27% at the end of June, alongside a 3.18% rate of consumer price increases as at July, while the current account deficit was running at 3.0% of GDP, which was up from 2.2% over the first three months of 2018.