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Last updated: June 13, 2013 12:13 pm
Indonesia has unexpectedly increased its main interest rate as it seeks to damp concerns that the economy is overheating amid a global pullback from emerging markets.
The country’s central bank raised its benchmark rate 25 basis points to 6 per cent at its monthly policy meeting on Thursday, two days after surprising the market by raising another interbank interest rate.
Bank Indonesia said it was acting “pre-emptively” to contain rising inflation expectations and maintain macroeconomic stability after a recent outflow of capital driven by concerns about the country’s deteriorating trade position and failure to curb the ballooning fuel subsidy bill.
Indonesia has become reliant on inflows of foreign investment to finance its current account deficit but investors have become increasingly worried about protectionist measures and legal uncertainties, which both seem to be on the rise ahead of national elections next year.
Economic growth and investment have started to slow over the last few quarters as Indonesia’s exports of coal, palm oil and other natural resources have suffered because of lower growth in China and India.
But economists have warned that while gross domestic product growth may not rise much above 6 per cent this year, some sectors such as property are still at risk of overheating.
After several years of strong portfolio inflows, investors sold off rupiah-denominated assets concertedly over the past month, with the currency rising above 10,000 to the US dollar for the first time since 2009 and yields on 20-year government bonds increasing by about 100 basis points in the past month to 7.3 per cent.
“Sentiment toward Indonesia had been turning sour for a while,” said Su Sian Lim, an economist at HSBC in Singapore. “The financial market response has been a wake-up call to the central bank and they have responded.”
She added that this was likely to be the start of a longer monetary policy tightening cycle.
The central bank warned in its policy statement of “continuously high credit growth” in the property sector and revealed that it was preparing “macro-prudential policies” to prevent excessive risks.
Indonesia, southeast Asia’s biggest economy, was seen as one of the region’s most robust until last year because growth is mostly driven by domestic consumption rather than exports to the developed world, as in Malaysia and Thailand.
But some analysts believe the country has become one of the region’s riskier economies because of its relatively weak foreign exchange reserves, open financial markets and deteriorating current account position.
A recent analysis by ANZ showed that Indonesia, at 12 per cent, has the lowest level of foreign exchange reserves as a percentage of gross domestic product out of Asia’s main economies – well behind China, Malaysia, the Philippines and Thailand.
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