Bank Indonesia likely to keep policy rate steady this week, says DBS Bank

Bank Indonesia (BI) is expected to keep its policy rate steady this week. While the Q1 2017 GDP growth came in slightly disappointing, there are enough data to suggest stronger growth momentum in H2 this year.

There is less pressure for the central bank to cut rates now, although the central bank may continue to use verbal suasion on commercial banks to trim its lending rates further. A look at BI’s foreign reserves provides some hints into the rate trajectory going forward. Official reserve assets rose to a record-high USD125 billion as of May, DBS reported.

Given that the USD/IDR has been relatively stable in the year-to-date, the surge in reserves suggests that the central bank has been active in preventing the excessive strengthening of the rupiah. BI is cautious of a possible reversal of capital flows later in the year, and thus, the need to build its reserves right now.

Nonetheless, the central bank is tolerant of gradual trade-weighted currency appreciation, even if the rupiah is relatively stable against the USD. As of April, the rupiah nominal effective exchange rate (NEER) is up by 3.5 percent since end-2015, making it one of the top performers in the region. Raising the key 7-day reverse repo rate later this year may be necessary if the Fed sticks with its plan to normalise interest rates in 2017 and 2018.