Timely and Anticipatory Increase in Benchmark Interest Rates

By Ryan Kiryanto, Economist and Co-Founder & Expert Board Institute of Social, Economic and Digital/ISED

 

Jakarta – Board of Governors Meeting of Bank Indonesia (BI) on August 22-23, 2022 which decided to increase the BI 7-Day Reverse Repo Rate (BI7DRRR) by 25 basis points (bps) to 3.75%, the Deposit Facility interest rate by 25 bps to 3.00%, and the Lending Facility interest rate of 25 bps to 4.50% are all timely and anticipatory decisions.

It is so called because the decision was taken as a pre-emptive and forward looking step to mitigate the risk of an increase in core inflation and inflation expectations due to rising prices for non-subsidized fuel oil and volatile food inflation, as well as strengthening the rupiah exchange rate stabilization policy so that it is in line with its fundamental value, considering the uncertainty in global financial markets still high, in the midst of increasingly strong domestic economic growth.

This was also emphasized in the title of Board of Governors Meeting of Bank Indonesia’s decision this time, namely “Synergy to Maintain Stability and Strengthen Recovery”, which shows that the objectives of maintaining economic stability and strengthening economic recovery continue to go hand in hand.

It was mentioned that it was anticipatory in making the Board of Governors Meeting of Bank Indonesia decision this time because its anticipate the possibility of high expectations of core inflation and the consumer price index (CPI) as a direct impact (first round effect) and an indirect impact (second round effect) from the increase in non-subsidized fuel prices as well as the impact of volatile food inflation.

That the spirit or spiritual nuance of Board of Governors Meeting of Bank Indonesia’s decision this time is called timely and anticipatory is clearly also evident from the relatively low increase in BI7DRRR, which is 25 bps, which means it is in line with the expectations of many economists and analysts. Thus, this decision is logical and is believed to be acceptable to many parties. Moreover, it has often been exposed previously that Bank Indonesia will always be in the market and act ahead of the curve which is a precautionary, anticipatory, and forward looking attitude.

Thus, decision making is really based on the assessment of internal (domestic) and external (global) factors that occurred in the past, present, and future forecasts.

The strengthening of the narrative in the statement “to strengthen the stabilization of the rupiah exchange rate” also indicates that it is time to adjust the BI7DRRR so that the stability of the rupiah exchange rate can be maintained and even if there is volatility in the market, the scale is relatively low and under control. Understandably, a number of central banks in advanced economies and emerging markets have raised their benchmark interest rates aggressively (an average of above 50 bps ), which is one of the reasons for strengthening them to maintain the stability of each country’s currency.

Interestingly, the expectation of core inflation and inflation based on the CPI which tends to rise has been clearly anticipated by Bank Indonesia by strengthening the synergy between the center and the regions to maintain price stability and increase food security through the Coordination Meeting of the Inflation Control Team (TPIP and TPID), as well as acceleration implementation of the National Movement for Food Inflation Control (GNPIP). Then, to mitigate the risk of rising inflation as a whole, the right strategy was also carried out, namely strengthening monetary operations by increasing the interest rate structure on the money market in accordance with the BI7DRRR interest rate increase.

Then, the current Board of Governors Meeting of Bank Indonesia’s decision still contains a pro-economic recovery stance, as can be seen from the incentive policies provided by Bank Indonesia to banks, namely implementing incentive policies for banks that disburse credit/ financing to priority sectors and MSMEs and/ or meet the target Ratio of Macroprudential Inclusive Financing (RPIM) which takes effect September 1, 2022. The intended targets are (a) increasing the amount of incentives for priority sectors to a maximum of 1.5% from the previous maximum of 0.5%, and incentives for achieving RPIM to remain at most 0.5 %; and (b) expansion of priority sub-sector coverage from 38 priority sub-sectors to 46 priority sub-sectors.

Thus, the draft Board of Governors Meeting of Bank Indonesia’s decision this time is believed already considering the developments in international world into account. In this case, the global economy is at risk of slower growth than previously estimated, accompanied by an increase in the risk of stagflation (an economic slowdown coupled with a high inflation spike) as well as high uncertainty in global financial markets due to geopolitical risks due to the Ukraine-Russia war accompanied by protectionist policies in several countries or regions as a result of the signal of economic deglobalization. To be sure, the synchronization of tightening economic and monetary policies in a number of countries as a form of policy normalization (new normal policy) is also a concern for Bank Indonesia in making this decision.

 

Sooner or later, the decision on increase the BI7DRRR by 25 bps will be reviewed by the financial sector, especially the banking sector, in relation to the policy of adjusting interest rates for deposits and loans. The same thing will also be done by business doers, both as owners of funds (depositors) or as credit borrowers (debtors). That the BI7DRRR increase of only 25 bps indicates that even if there is an adjustment in banking and financing interest rates, it is likely that the increase will not be too large.

Surely, since the liquidity conditions of each individual bank and financing institution differ from one another, it is possible that interest rate adjustments in the financial sector will not be the same and simultaneous. Because, after all, the financial services industry players (especially the banking and financing sectors) must consider the sustainability of their business and also the business sustainability of their business partners in the long term. Business sustainability and long term relationships are important considerations before interest rate adjustments are made. (*)