|
Bank Indonesia's latest rate decision doesn't appear to have
been detrimental to the economic recovery. In fact, it has sent
something of a positive signal to the market.
Last week, Bank Indonesia maintained its benchmark interest rate at
nine percent, calling a halt to the series of 10 consecutive rate cuts
that started in May 2006. The decision quickly set the market wondering
about its meaning, implications and the road ahead.
Long before last week, many central bank officials had been expressing
caution over lowering rates at a too rapid a pace, linking this with
supply-side rigidities that could cause prices to rise faster in the
event of an increase in aggregate demand.
Monetary policy was said to be destined for a neutral stance this year,
i.e., a stance that neither stimulates nor restricts economic growth.
However, last week's decision to keep the BI rate steady didn't seem to
have been caused by imminent demand-side inflationary pressures. For
many, it seemed odd that BI paused in its rate-cut cycle at a time when
the economy has only been showing fragile signs of recovery.
Although credit growth has improved and is approaching a moderate rate
of 15 percent per annum, it is still below the level needed to catch up
with the incremental increase in third party funds.
Meanwhile, the 20 percent growth rate in the M1 monetary aggregate,
which measures the amount of cash in circulation and money held in bank
accounts, is encouraging but seems to be overstated by the strong
incremental increase in demand deposits held by the government sector
(at a time when regional government spending is restrained by the
delayed finalization of local budgets).
Monthly car and motorcycle sales are also still weak, being
respectively 40 and 10 percent below their levels prior the 2005 fuel
price increases.
Also, if we look at the full-year 2006 results of consumer-goods firms
listed on the Jakarta Stock Exchange, it will be seen that the average
rate of revenue growth stands at a modest 10.5 percent, an improvement
from the 8 percent seen in 2005, but still far short of being a cause
for jubilation.
On the investment side, the signs of recovery are also still fragile.
While investment credit growth has increased, the growth rates for
domestic cement consumption and capital-goods imports have not shown
any signs of increasing dramatically.
It may be that BI's decision had more to do with inflation
expectations, as suggested in its press release. In fact, a look at the
consumer-confidence figures reveals rising inflation expectations over
the past several months.
But if BI did base last week's decision on rising inflation
expectations, it may have been reacting to seasonal phenomena or
fluctuations. Expectations are usually affected by recent events. So
when the price of rice, the Indonesian staple foodstuff, surges by
nearly 15 percent, as has been the case this year, it is likely to have
an impact on inflation expectations.
The surge in rice prices was due to various supply-side problems,
including both floods and droughts. These problems may, or may not,
dissipate soon. But it's a safe bet that inflation expectations will
ease as rice prices start to stabilize.
This is confirmed by the latest consumer-confidence data released on
Monday, which show that inflation expectations declined slightly in
March, when rice prices started to ease compared to the previous month.
So, what should we make of last week's decision by BI? What the
monetary authority took into consideration in arriving at its decision
is difficult to vouchsafe. However, what is very obvious is that the
decision sent a signal to the financial markets that BI will be
cautious in conducting monetary policy.
Despite being contrary to market expectations, the decision didn't
trigger any dramatic turbulence. The markets seem to have been
reassured that monetary policy will be conducted in a prudent manner.
It is way too premature to predict a resurgence in excess liquidity
balances, as claimed by some economists, as a result of BI's latest
rate decision.
Given the lofty spreads between bank lending rates and deposit rates,
bank lending rates could still decline even after last week's pause --
as happened in 2004. Furthermore, the effect of the previous BI rate
cuts has yet to be fully felt by the real sector, while the recent
relaxing of bank lending regulations could produce "untightening"
effects.
So at this juncture, the negative impact on the real sector appears to
be marginal.
OK. So what next? The big picture doesn't seem to have changed very
much. The risk of capital flight still looks distant, global liquidity
is abundant and domestic interest rates still look attractive,
especially compared with many developed economies.
Core inflation, i.e., headline inflation excluding the volatile
components, remains in a six-percent range -- a reasonable distance
below the BI rate. Thus, it's probably only a matter of time before BI
finishes the task it has embarked upon by reducing rates a couple of
more times this year.
|
