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Analysis: June CPI: Reflection of demand slowdown
Indonesiaâs inflation of 0
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Indonesia's inflation of 0.54 percent was subdued in June, lower than our and the consensus of market expectations, a reflection of weak demand on the ground.
The increase in prices of staple foods remained the highest contributor to inflation at 1.60 percent month-on-month (mom) while all components in all sectors continue to rise, including processed foods at 0.55 percent, housing at 0.23 percent, clothing at 0.28 percent, health at 0.32 percent, education at 0.07 percent and transportation at 0.11 percent. On a year-on-year (yoy) basis, inflation rose to 7.26 percent, also lower than our and consensus estimates. Outside of staple foods, price rises on home rentals and salaries of domestic helpers resulted in higher inflation, while air ticket prices experienced a small decline.
The core consumer price index (CPI) increased 0.26 percent mom but remained flattish at 5.04 percent yoy on weak consumption growth during the current economic slowdown, partly caused by the continuing high yoy rupiah depreciation (Table 3). However, we may see possible inflation pressure stemming from the Idul Fitri effect this month, although this could be muted by currently weak local economic conditions.
Looking ahead, we expect July's mom inflation to be higher at 0.78 percent, reflecting higher seasonal demand in the lead up to the Idul Fitri festivities. From the supply side, the recent El Niño phenomenon is already causing escalation in wholesale rice prices (Table 2), up nearly 7 percent on a mom basis. We suspect these conditions will continue as the Indonesian Meteorology, Climatology and Geophysics Agency (BMKG) predicts a longer-than-expected dry season that could last until November. However, in our view, last year's high base (due to a full month of fasting) should limit the prospect of a steep yoy inflation increase. Higher inflation in food, clothing and transportation should be the main drivers of this month's inflationary pressure. We remain confident that inflation will stabilize to Bank Indonesia's (BI) target of 4+1 percent by the year's end. Sudden government decisions to raise fuel and electricity prices as well as continued rupiah depreciation are the main risk factors for a full year of inflation in 2015.
At the next board of governors meeting on July 14, we expect the current BI rate to be maintained at 7.5 percent due to the current period of high inflation, the weak rupiah as well as a possible US Federal Reserve rate hike later in the year. Thus, at this stage of the cycle, we expect BI to have limited room in the months ahead to lower interest rates. We note that the higher inflation has already cut Indonesia's real interest rate from 0.33 percent to 0.22 percent, possibly forcing BI to even raise rates going forward to defend the rupiah from greater than expected fund outflows in the event of a worse-than-expected outcome in Greece and faster-than-expected Fed rate hike.
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The writer is an economist at Bahana Securities
