In a surprising decision that defied market expectations, Bank Indonesia (BI) reduced its interest rate by 25 basis points to 6.00%. Governor Perry Warjiyo stated that the “time is right” for this move, emphasising that the decision aligns with inflation remaining within target, a stable and strengthening IDR, and the need to boost economic growth.
The central bank has indicated its expectation that the Federal Reserve will implement three additional rate cuts of 25 basis points each this year, followed by four more cuts next year. BI also anticipates continued strength in the IDR and plans to intervene in the foreign exchange market through spot transactions, Domestic Non-Deliverable Forwards (DNDF), and government bonds. Additionally, BI is monitoring opportunities for further reductions in policy interest rates. Our economist forecasts another 50 basis points cut this year, potentially lowering the rate to 5.50%, and a cumulative 75 basis points reduction next year, targeting 5.00%.
The surprise cut is perceived as a positive signal to the markets, suggesting that BI is gaining confidence in the global macroeconomic environment, which is becoming more supportive of the IDR. Following the announcement, the USDIDR exchange rate remained stable, while the 1-month USDIDR Non-Deliverable Forward (NDF) traded significantly lower.
Prior to this decision, BI had maintained a relatively hawkish stance compared to other Asian central banks, indicating that efforts were focused on strengthening the IDR through the third quarter of 2024. The recent rate cut is expected to bolster support for Indonesian government bonds (GBs), as the central bank appears to be initiating an easing cycle. Following the announcement, both short and long-term yields fell in response to the decision, with strong inflows into Indonesian bonds further supporting the currency.
In the immediate aftermath of the Federal Reserve’s recent decision, the outlook for emerging market currencies, including the IDR, appears mixed. Although the Fed implemented a significant 50 basis point cut, their overall tone was not overtly dovish. The dot plots suggest only an additional 50 basis points of cuts this year, with Fed Chair Jerome Powell cautioning against assumptions of further substantial rate reductions. Despite this, the IDR has emerged as a regional outperformer, with the positive signal from BI countering the Fed’s less dovish approach.
Looking ahead, particularly into October, there is potential for a rebound in the USDIDR as uncertainties surrounding the US elections begin to factor into the market. However, our medium-term outlook for the IDR remains bullish, based on several factors: the commencement of an easing cycle by BI, robust economic fundamentals that support a maintained trade surplus, anticipated inflows into emerging market equities as the Fed eases and growth remains stable, and a manageable fiscal position, with a 2025 forecast of 2.53% of GDP well below the legal ceiling of 3.00% of GDP. Therefore, we maintain our forecasts, expecting the USDIDR to trend downwards.
