Analysis: December inflation bodes well for growth

Indonesia’s 2011-end inflation rate ended on a positive note as we head into 2012 with December CPI coming in at 0.57 percent month on month (m-m), lower than market expectation of 0.63 percent, although higher than our estimate of 0.48 percent. This reflects our bullish view that inflation will remain under control and will be supportive of growth in 2012.

Annual CPI reached 3.79 percent year on year (y-y), down from the previous month of 4.15 percent on higher base effect. Higher prices of rice, chilies, vegetables, airline tickets and rental charges (figure 1) were the main drivers for December’s inflation.

Although 2011 full-year CPI was higher than our estimate, the actual level was definitely much lower than 2010’s level of 6.9 percent as well as the government’s estimate of 5.7 percent on its 2011 state budget, helped by energy-related subsidies of Rp 195 trillion (around 14.8 percent of total government expenditure) amid pressure from higher global oil prices due to unstable Middle East situation.

With higher m-m inflation in December 2011, the central bank is likely to hold its BI rate at 6 percent on the upcoming 12 January board of governors (BOG) meeting. However, as we expect CPI to remain below 4.8 percent y-y through the first half, 2012 (figure 2), BI will have room to further cut rates by 50 basis points (bps) to 5.50 percent to support economic growth ahead.

In 2012, we expect inflation to remain well contained, although higher at 5.24 percent y-y on several government policies: (1) Limiting the distribution of subsidized fuel to only public transports and motorcycles, (2) 10 percent increase in electricity rates (TDL) and (3) 10 percent increase in civil servants’ salaries. However, we expect commodity prices, which will remain subdued due to global economic weakness, will help dampen inflationary pressure in 2012.

Global economic weakness can already be seen on Indonesia’s trade front. November’s total exports reached US$16.9 billion, up 8.3 percent y-y, but continued to drop m-m from August’s peak level, suggesting the advent of global economic slowdown affecting our external trades. On the imports side, November’s level was up 18.4 percent y-y to $15.4 billion, supported by mechanical machinery, electrical machinery and steel. However, we note that Indonesia’s trade surplus remained in November, bringing overall surplus to $23.6 billion in the January-November period, up nearly 31 percent y-y.

We note that Indonesia’s real interest rate will still remain positive (figure 3), leaving room for lower benchmark rate adjustment by the central bank, in the event global economic conditions were to deteriorate by more than what we currently expect. Overall, BI’s bold move to reduce rates will be supportive of both the equity and bond markets going forward in our view.

The writer is an economist at PT Bahana Securities