BI move to keep interest rate gets thumbs-up

Bank Indonesia’s (BI) move to keep its benchmark interest rate at a record low of 6.5 percent for 14 consecutive months received the thumbs-up from financial analysts, who said there was no urgency for the central bank to raise the rate.

Analysts said that keeping the interest rate at the current level was the right decision as inflation has begun to slow again after a sharp increase in July. The move was also timely because higher interest rates could also further spur the inflow of foreign funds into the country’s debt market.

Speaking to reporters after announcing the monthly rate policy at his office on Tuesday, BI Governor Darmin Nasution said the central bank had noticed some inflationary pressure as a result of excess in liquidity.

But, he said, that the central bank would not use its interest rate instrument to tame the inflation because raising the interest rate could kill lending growth.

“For the time being, the board of governors considers liquidity control more important,” he said in a reference to the central bank’s move last month to raise reserve requirements imposed upon commercial banks.

BI raised primary reserve requirement—funds banks must store at the central bank—from 5 percent to 8 percent of banks total third party funds in order to control excess of liquidity and in an effort to curb inflation, instead of raising the BI rate in September.

Inflation rate rose to a 15-month high of 1.57 percent in July, but slowed to 0.67 in August and 0.44 in September. The year-to-date inflation in September rose to 5.28 percent, slightly below the government’s full year inflation estimate of 5.3 percent.

Darmin said he shared analysts’ predictions that the inflation rate would exceed 6 percent this year.

Analysts and the central bank forecast October inflation to continue slowing but saw the potential for deflation in November. Both parties agreed that inflation could pick up in the festive month of December.

Mandiri Sekuritas and Danareksa Research Institute saw full year inflation of 6.3 and below 6 percent, respectively.

However, Darmin believes the inflation rate will still be in the range between 4 and 6 percent next year, while in 2012, inflation could slow to between 3.5 and 5.5 percent.

BI persistence in maintaining the key rate at a record-low for over a year resulted in high loan growth of 21.2 percent up until September, according to BI data. Darmin said the central bank forecast full-year lending to grow by between 22 and 24 percent.

However, analysts have expressed concerns that the growth was not “healthy” as the lending was still dominated by consumer loans, instead of the working capital loans, perceived as an important factor to spur economic growth.

Analysts had also warned the central bank to closely watch the foreign capital influx, which they said, could pose risks of overheating in the economy and the run-up of asset prices which could result in price bubbles followed by swift outflows of foreign funds.

According to BI data, foreign funds pumped into the debt and stock market reached a total of
Rp 115 trillion (US$12.88 billion) from January to the end of September, this year. Of the total, Rp 20.5 trillion went to SBI notes, Rp 74 trillion in SUN and Rp 21 trillion in equities.(est)