ECONOMIC UPDATE - Monetary Review - BI pauses its rate cut cycle



The expected pause

After 4 consecutive months of rate cuts totaling 100 bps between July–October, Bank Indonesia (BI) paused its BI 7-Day Reverse Repo Rate (BI-7DRRR) cut cycle. BI kept the 7-DRRR, deposit and lending facility rate on hold at 5.00%, 4.25% and 5.75%, respectively. This came in-line with our and consensus expectations. However, in order to boost the economic growth and ensure adequate additional liquidity in banking system, BI curtailed the minimum level of Rupiah Reserve Requirements by 50 bps for conventional commercial banks (5.5%) and Islamic banks/ Islamic business units (4.0%), effective January 2020. Better macroeconomic indicators in 3Q19 seem to be the most likely explanation of the cut pause. Despite the pause, BI retained its policy stance as “accommodative” signaling that it remains open to further rate cuts given the benign inflation outlook and relative underperformance in terms of GDP.  


Better indicators hold back the cut cycle

As the main focus of BI, inflation and exchange rate shows stable and brings positive sentiment to market. For inflation, the relatively low and stable inflation is predicted will remain until the end of year as in Oct-19, the inflation grew 0.02% MoM from Sep-19 and stood at 3.13% YoY. This leads to YE 2019 inflation will be standing under the inflation target at 3.5%±1. For Rupiah itself, it got nearer to the level in Jan-19 on Rp13,973/USD as Rupiah stood on Rp14.090/USD (21/11/2019) and showed an appreciation trend. Some considerations of the pause came from the better outcome of the macroeconomic data compared to the prediction of many economists in 3Q19. For the Balance of Payment (BoP) itself, it posted at $46 mn deficit (vs $1.9 bn deficit in 2Q19) with its current account deficit (CAD) that stood at USD7.7bn or 2.7% of GDP (vs $8.1 bn or 2.9% of GDP in 2Q19).  Both were narrowing from last quarter and this brought confidence for the rest of the year. Especially, the narrowing CAD will be supported by lower oil and gas (OG) sector trade deficit due to the implementation of the B-20 policy and the trial of B-30 in 4Q19. This manageable BoP could come in handy towards Indonesia's external resilience against global economic downturn, therefore, Rupiah will stay stable as well in the near future. In addition, the capital and financial account recorded a large surplus in 3Q19 at USD7.6 billion or increase as much as 17.9% QoQ, fostering strong investor confidence in the domestic economic outlook. Furthermore, the position of foreign exchange (forex) reserve assets remained strong, as in Oct-19 BI recorded USD126.7 bn of forex reserve or increased by 1.9% MoM.


When we pause to contemplate

BI has showed that the rate cut was no longer aggressive through this pause. This pause may bring somewhat positive signal to market that our economy is doing good because cutting interest rates could be a way to head off recession. We see the rate cut pause was wise since a too cheap and liquid loan may lead to bubbles or lead some firms being overleveraged. However, we still anticipate the next FOMC meeting on Dec, 11th 2019. The Fed itself has sent strong signal to hold its rate so it may ensure that BI will still pause the cut on its last Board of Governors Meeting in this year on Dec, 19th 2019. Thus, we still maintain our view on BI-7DRRR that it will stand at 5.0% in YE-2019. We also expect BI to monitor GDP performance in the coming quarters while keeping a close eye on the Indonesian Rupiah. With inflation expected to remain within target going into 2020, BI will resume its easing cycle in 2020 where we expect another 50 bps rate cuts to support growth momentum, given the possibility of an escalation in global headwinds. However, more aggressive rate cut could pose the risks of capital outflows, which may ultimately hurt the growth outlook.