Beating our and market expectations, the country'€™s February Consumer Price Index (CPI) showed further deflation of 0.36 percent month-to-month (January: -0.24 percent), the lowest level in 15 years. February data also showed year-to-date (y-t-d) CPI deflation of 0.61 percent. We note that the last time, deflation for two consecutive months was recorded in March-April 2011.

With the support of regular fuel-price cuts in January, price levels of transportation and staple foods trended down (table 3). Additionally, on a year-on-year (yoy) basis, February CPI decelerated to 6.29 percent (January: 6.96 percent). Also, lower than market and our estimates, February core inflation slightly slowed to 4.96 percent yoy (January: 4.99 percent), despite the negative impact from electricity rate adjustments and price hike for non-subsidized 12-kilogram liquified petroleum gas (LPG) canisters.

Contrary to disinflationary data for January-February showing 0.6 percent y-t-d deflation, we expect March CPI to move back into inflation territory. There are two major factors underlining our expectation.

First would be higher administered prices. The Energy and Mineral Resources Ministry has raised the price of regular fuel to Rp 6,900 per liter in Java, Madura and Bali, while the fuel price for outside those areas also inched up to Rp 6,800 per liter, resulting in an Rp 150 per liter price hike on average, up 2.2 percent. Separately, state-owned oil and gas firm Pertamina has also increased the price of non-subsidized 12-kg LPG canisters to Rp 134,000, a 3.8 percent increase.

Second, higher CPI will stem from the surge in rice prices as a result of a potential harvest season delay. At this stage, we believe there could be 0.15 percent inflation in March based on our sensitivity analysis. However, we expect inflation in the first half this year to remain manageable at 6.5 percent to 7.6 percent yoy.

Despite the deflationary trend and expected further trade-balance surplus, we believe that Bank Indonesia, at its next policy rate meeting on March 17, will maintain its benchmark rate at 7.50 percent.

In our view, the central bank is likely to remain cautious leading up to the US Federal Reserve'€™s monetary policy decision in April, the outcome of which may result in the continued and undesirable weakness of the rupiah, which could break the Rp 13,000 level against the US dollar.

At this stage, we are concerned about companies, particularly small and medium enterprises (SMEs), with the need for dollar raw material imports and foreign debt servicing requirements.

Note that Indonesia'€™s external private debt, which stood at $160.5 billion as of November last year, up 15 percent yoy, has not only exceeded the government'€™s external debt of $134 billion but also comprised sizeable short-term loans amounting to $50 billion or more than 31 percent of total private offshore borrowings.

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The writer is an economist at Bahana Securities

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