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Jakarta Post

Indonesia braces for market shock as Fed ready to increase rate

  • Grace D. Amianti

    The Jakarta Post

Jakarta   /   Tue, March 7, 2017   /  07:31 am
Indonesia braces for market shock as Fed ready to increase rate In this Feb. 15, 2017 file photo, Federal Reserve Chair Janet Yellen testifies on Capitol Hill in Washington before the House Financial Services Committee for the Fed's semi-annual Monetary Policy Report to Congress. Federal Reserve officials earlier this month discussed the need to raise a key interest rate again "fairly soon," especially if the economy remains strong. Minutes of the discussions in minutes released Wednesday, Feb. 22 showed that while Fed officials decided to keep a key rate unchanged at their Jan. 31-Feb. 1 meeting, there was growing concern about what could happen to inflation if the economy out-performed expectations. (AP/Scott Applewhite)

As the United States’ Federal Reserve inches closer to a second rate increase, Indonesia is preparing to build a cushion against capital outflows that could trigger volatility in the domestic market.

In a move to catch up with economic optimism under US President Donald Trump, Federal Reserve chairwoman Janet L. Yellen conveyed a rather clear message last Friday that the Fed was likely to raise its benchmark interest rate in mid-March, far sooner than investors had expected.

The Fed has been moving closer to reaching its employment and inflation targets according to positive US economic data, including the lowest level of unemployment in decades.

Global markets had priced in the Fed’s previous communication on a second rate increase sometime mid-year following a hike of 25 basis points (bps) to 0.75 percent last December, but regulators in Indonesia now feel a need to strengthen their defenses earlier.

“At the FOMC [Federal Open Market Committee] meeting next week, there is a more-than-90percent chance of an increase in the federal funds rate. Of course, we need to be cautious about that,” Bank Indonesia (BI) governor Agus Martowardojo said on Monday.

During a jittery November following Trump’s victory in the US presidential election, BI intervened in foreign exchange and sovereign bond markets in response to capital outflows, as Indonesia relies heavily on foreign portfolio investors, who own about 40 percent of the country’s total government securities.

BI would be doing the same to anticipate the upcoming Fed rate hike to reduce rupiah volatility, Agus said, stressing however, that the central bank would maintain a stable currency based on its fundamental value, without any specific target.

Aside from anticipating a US rate hike, BI is also following statements regarding the US plan to renegotiate a trade deal with Mexico, which was read by the market as a signal that the Trump’s administration would prefer a weaker dollar to maintain the country’s competitiveness.

The Jakarta Interbank Spot Dollar Rate (JISDOR) showed the rupiah trading around Rp 13,364 per US dollar on Monday, appreciating slightly from Rp 13,375 per US dollar on Friday.

“BI is fine at managing the rupiah, as it tries to maintain a more stable level,” said Bank Mandiri chief economist Anton Gunawan, adding that BI’s existing measures, like the requirement of rupiah usage in local jurisdiction and mandatory hedging for companies with high exposure to forex risk had helped maintain exchange rate stability.

The country’s foreign exchange reserves remained strong at $116.8 billion in January, up slightly from $116.4 billion in December.

However, the central bank is expected to monitor closely the US’ 10-year Treasury bill (T-Bill) yields, which have climbed to 2.49 percent since last November. “The rupiah could weaken to Rp 13,800 per US dollar if the 10-year T-Bill reaches 3 percent and the Fed rate 2 percent,” Anton said.

Possible pressure on the rupiah would deter BI from loosening policy later in the year.

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Prima Wirayani contributed to the story 

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