Indonesia’s Central Bank Holds Interest Rate Steady At 7.25 Percent, Likely Ending Recent Liquidity Tightening Measures

Indonesia’s central bank held its key interest rate steady at 7.25 percent, while the deposit facility rate was unchanged at 5.5 percent, in line with expectations, as inflation eased and the country registered a surplus balance of trade in August, reversing a deficit of $2.31 billion in July.

Bank Indonesia, or BI, had been aggressively tightening its monetary policy to prop up a rapidly depreciating rupiah and to rein in the current account deficit of $9.8 billion in the second quarter, or about 4.4 percent of gross domestic product.

“Looking ahead, we believe that BI is coming to the end of its current tightening cycle, which has seen interest rates increased by 150bp since June,” Gareth Leather, an economist at Capital Economics, said in a note. “There are signs that while inflation remains high, it may finally have peaked. Consumer price inflation fell to 8.4% y/y in September, down from 8.8% y/y in August. In addition, BI is increasingly concerned over the impact of recent rate hikes on the economy. At its September meeting BI cut its growth forecast for 2014 to 5.8-6.2%, from 6.0-6.4%.”

However, the rupiah is expected to be a major influence in Indonesia’s future monetary policy decisions, as the U.S. Federal Reserve’s plan to wind down its massive asset-purchase program could impact the currency as it has done in the past with other emerging-market currencies.

“Owing to the potential for further volatility amid uncertainty over the timing of Fed tapering or even the possibility of a US government default, further rate increases by BI cannot be ruled out completely,” Leather said.