Tackling Inflation Vital, IMF Warns Bank Indonesia

Jakarta Globe, Bloomberg & AFP | September 18, 2010

Trading results are displayed on an electronic board outside the Indonesia Stock Exchange on Friday. The IMF has warned that foreign investors will lose interest if the government does not tackle corruption. (AFP Photo)

Bank Indonesia should signal a greater readiness to boost borrowing costs amid signs of an accelerating economy, the third-strongest among Group of 20 nations last year, the International Monetary Fund said on Friday.

“I think they’ll need to be more proactive going forward on monetary policy,” Thomas Rumbaugh, division chief at the IMF’s Asia & Pacific Department, said. “We believe there needs to be a stronger commitment to reducing inflation and keeping it low.”

Rumbaugh’s comments come two weeks after Indonesian central bank chief Darmin Nasution said he wanted to avoid increasing interest rates by using lending and reserve rules for banks to contain inflation and stoke an expansion in Southeast Asia’s largest economy.

The IMF said gross domestic product would grow 6.2 percent next year from 6 percent this year and 4.5 percent in 2009.

Unlike policy makers in other parts of the region, including India, Malaysia and Thailand, Bank Indonesia has kept its benchmark rate unchanged at a record-low 6.5 percent for more than a year.

The rupiah has climbed 4.5 percent against the US dollar this year, less than the ringgit, baht and Singapore dollar. It was little changed at 8,985 on Friday.

President Susilo Bambang Yudhoyono aims to bolster growth, and is targeting an average 6.6 percent expansion through the end of his term in 2014.

“As long as we still can manage our monetary variables by other instruments, we will try to avoid changing the interest rate,” Darmin said earlier this month.

The central bank said this month that lenders would be required to set aside 8 percent of their deposits as primary reserves starting Nov. 1, up from 5 percent.

“They may be able to delay a rate increase a little bit longer because of the step they’ve taken on the reserve requirement,” Rumbaugh said.

Still, “the direction is clear, and they’re going to have to be proactive in terms of watching market developments.”

Rumbaugh also said capital inflows, as well as stronger credit growth, were “providing a boost to domestic liquidity.”

Lending rose 10 percent in 2009 and accelerated to a 19.5 percent pace in the year to July, the IMF said in its assessment of Indonesia’s economy.

The IMF urged BI to “signal its readiness to respond to rising inflationary pressures to anchor  expectations within the 4 percent to 6 percent target range.”

Consumer prices were forecast to rise 5.9 percent this year, after gaining 2.8 percent in 2009, the fund said.

“A proactive policy would also signal Bank Indonesia’s commitment to lower the level and volatility of inflation in line with trading partners,” the fund said.

The IMF also “generally cautioned against introducing administrative measures to fuel credit growth.”

While the fund described as “impressive” the performance of Indonesia’s authorities in guiding the economy through the global financial crisis, including being the only G-20 member with declining government debt in 2009, further fiscal reforms would be “necessary to support sustained high growth.”

“Specifically, reducing energy subsidies would create additional fiscal space for much-needed infrastructure spending and transfer programs for the poor, with little impact on debt sustainability,” the IMF said.

“Over the medium term, efforts should continue to improve public infrastructure and the business climate.”

Friday’s report also “commended” moves over the last decade to boost financial stability, as well as recent measures such as the enactment of the Financial System Safety Net Law.

The IMF report also said the government must make fighting corruption a priority if it wanted to build on its progress as one of the world’s best-performing economies.

Foreign investors  needed to fund Indonesia’s expansion into a regional powerhouse would be cautious until more was done to fight corruption and improve the rule of law.

“A decisive and successful response, as well as a decade of sound policies and structural reform, helped Indonesia recover quickly from the 2008 global crisis,” the report said.

“However, lingering concerns over weak enforcement of the rule of law, transparency, and governance issues weigh on market perceptions. Addressing these weaknesses should be a priority.”