Indonesia Faces Rupiah Test After Rate Move on Record Deficit

Indonesia Faces Rupiah Test After Rate Move on Record Deficit

Indonesia’s interest-rate increase yesterday helped the rupiah climb for the first time this week. To sustain that gain, the country needs to curb a record current-account gap that’s making it vulnerable to persistent pressure on emerging-market currencies. Bank Indonesia increased the benchmark reference rate to 7 percent from 6.5 percent, it said, after a meeting in Jakarta yesterday that came before the next scheduled policy review. It also raised the deposit facility rate by half a percentage point to 5.25 percent, and extended a bilateral swap deal with the Bank of Japan valued at $12 billion that will allow the two to borrow from each other’s foreign-exchange reserves.“The interest-rate hike is a more concrete and immediate step to tackle the current-account deficit even at the cost of slowing growth,” Handy Yunianto, head of fixed-income research at PT Mandiri Sekuritas, a unit of the nation’s largest lender, said in an interview from Jakarta yesterday. “But the impact will be short-lived until investors can see for themselves that the deficit has indeed narrowed.”

Indonesia joins Brazil, Turkey and India in taking steps to support their currencies this month as the prospect of reduced U.S. monetary stimulus prompts investors to sell emerging-market assets. A record current-account deficit last quarter for the Southeast Asian nation, and worse-than-estimated economic growth and inflation data have led to a stock-market slump and helped push the rupiah to its lowest level since April 2009 this week.

“What they can do now is to limit the collateral damage from the potential U.S. policy shift,” said Wellian Wiranto, a Singapore-based investment strategist at the wealth management unit of Barclays Plc. “The Fed’s previously abundant fountain of liquidity is turning into a black hole pulling everything in. BI can only try to anchor things as much as they can.”

Rupiah Advance

The rupiah advanced for the first time this week after the rate increase, rising 0.1 percent to close at 10,935 per dollar, after reaching a four-year low of 10,955 on Aug. 28, prices from local banks show.

The measures show “a clear commitment from the central bank to do the necessary to bring not just the macroeconomic environment, but also capital markets, back to stability,” HSBC Holdings Plc said in a note after the rate decision. The impact on the currency may be “very short-lived, especially if high emerging-market foreign exchange volatility persists elsewhere.”

Brazil’s central bank raised its key interest rate by a half-percentage point for a third straight meeting this week, and signaled the world’s most-aggressive tightening cycle will continue at the current pace to keep a weaker real from fueling inflation.

Coordinated Response

The Reserve Bank of India said Aug. 28 it will supply dollars to top oil importers after the rupee plummeted to a record low of 68.8450 per dollar. India’s rupee jumped more than 3 percent against the dollar yesterday, the biggest gain since 1986. Turkish central bank Governor Erdem Basci said this week he will use “surprise” tools to fight a deepening slump in the lira and will defend the currency “like lions.”

“What the market is looking for is more comprehensive and coordinated policy response from both central banks and also the government, particularly for countries with deficits, who need to show that they have a strong plan for reducing the current account deficit,” said Khoon Goh, a senior currency strategist at Australia & New Zealand Banking Group Ltd. (ANZ) in Singapore.

Local stocks and government bonds extended gains yesterday, with the Jakarta Composite Index of shares closing 1.9 percent higher. The yield on sovereign debt due May 2023 fell 14 basis points, or 0.14 percentage point, to 8.73 percent, after earlier touching the highest level since February 2011, according to prices from the Inter Dealer Market Association.

Market Pressure

Indonesia raised the key rate by a combined 75 basis points in June and July before keeping it unchanged at its meeting on Aug. 15 as slowing growth deterred a third consecutive increase. The rupiah’s more-than-5 percent slump in the past two weeks may have pressured the central bank to increase borrowing costs again before a scheduled policy review on Sept. 12.

“The central bank is finally responding to the market pressure,” Jemmy Paul, a Jakarta-based equity fund manager at Sucorinvest Asset Management, said in an e-mail. If the rupiah remains weak, there will be more tightening measures, he said.

Bank Indonesia yesterday reduced the holding period for its SBI debt certificates to one month from six months, in a move aimed at drawing funds back to the instrument. It had extended the holding period in May 2011.

Market losses accelerated after data this month showed the current-account deficit reached a record in the second quarter. Indonesia’s government said on Aug. 23 it will allow more mineral exports this year and increase a luxury goods tax to narrow a trade deficit, while the central bank said it is increasing foreign-currency supply.

Policy Tools

The central bank ordered lenders to set aside more funds in government and central bank bonds earlier this month as officials used policy tools other than benchmark rates to rein in liquidity and cool inflation expectations.

Indonesia’s bilateral swap deal with the Bank of Japan, in place since 2003, was due to expire Aug. 31, said Peter Jacobs, director of communications at Bank Indonesia. It has been renewed every two years, he said.

Economic expansion has slowed in the last four quarters, dipping below 6 percent in the three months through June for the first time since 2010. In neighboring Malaysia, where the central bank has lowered its estimate for GDP growth this year, the government said yesterday it plans to delay infrastructure projects, cut subsidies and may start a consumption tax, as it seeks to contain the budget deficit and bolster a shrinking current-account surplus.

Growth Risks

Indonesia’s consumer prices rose 8.61 percent in July from a year earlier, the fastest pace in more than four years. President Susilo Bambang Yudhoyono in June raised domestic fuel prices for the first time since 2008 to cut subsidy costs. The inflation rate may climb to between 9 percent and 9.8 percent by the end of 2013, the central bank said yesterday.

“We believe further rate hikes are needed to restore market confidence amid Indonesia’s deteriorating economic fundamentals,” analysts at Standard Chartered Plc led by Eric Alexander Sugandi wrote in a note yesterday. “Although rate hikes may help to ease inflationary pressures and strengthen the Indonesian rupiah, we also note the side effects of such policy on real GDP growth.”

To contact the reporters on this story: Novrida Manurung in Jakarta at nmanurung@bloomberg.net; Yudith Ho in Jakarta at yho35@bloomberg.net