DBS Warns of Fed Rate Increase As Economy Rallies

Uncertainty over possible increases in the Fed Rate continues to affect the stability of Indonesia’s economy this year. The Development Bank of Singapore (DBS) Group predicts that the US central bank will increase its rate three times each quarter this year.

As a result, they predict that the rupiah will touch IDR 13,600 per US dollar this year. Nevertheless, economic growth is expected to remain stable at 5.2 percent until the end of the year. This is supported by the monetary easing in Europe and Japan, which has restrained capital inflow slightly.

This capital inflow was triggered by the four percent difference in the yield on Indonesian government bonds and on government bonds in developed countries. As a result, capital continues to flood into Indonesia, amounting to US$ 4.9 billion since the beginning of the year. (Read: BI’s New Measure to Anticipate Fed Rate Increase).

DBS economist Gundy Cahyadi said that this currency appreciation is not unique to Indonesia. Other currencies, especially those of emerging markets, have also strengthened. However, he warned the market to be mindful of three possible increases in the Fed Rate in June, September, and December, as the US achieved its inflation target of 0.9 percent in March 2016.

That said, the market still expects no increase in the Fed Rate, or a one-time increase of 0.25 percent, at most. “At the beginning of 2016, inflation exceeded the year-end estimate. So the Fed has grounds to increase its rate. We have to be mindful of possible volatility in the financial market because the market is underestimating,” Gundy said during a media briefing at Dharmawangsa Hotel, Jakarta, Wednesday (27/4) (Read: BI Warns Market Over Fed Rate Increase Impact).

Nevertheless, Gundy is confident that the Indonesian economy will grow by 5.2 percent in 2016. Its major driver is household consumption. Buoyant consumer confidence is apparent from the increase in consumer goods imports. Contributing to this is the rise in non-taxable income from IDR 3 million to IDR 4.5 million a month. He projects household consumption to grow steadily at around five percent. Exports, however, do not look promising.

Infrastructure development by the government has driven the economy too. Unfortunately, this is hampered by reduced state revenue. The global economic slowdown has eroded corporate profits, shrinking income tax revenue. The fall in consumer demand coupled with the decline in global oil prices has reduced revenue from value added tax, non-tax state revenue and oil and gas tax revenue.

Gundy added that the eleven economic policy packages should have a positive impact in the medium term. However, the private sector is waiting in anticipation for the launch of these packages, especially the ease of doing business policy. (See also: Indonesia Leads Asia’s Economic Growth).

The government also needs to turn the intense interest in foreign direct investment (FDI) into actual investment, while avoiding fluctuations in the rupiah exchange rate. “The most important thing for private companies is to ensure that the rupiah is not volatile,” he said.