Monetary Policy Statement By The Governor Of Bank Indonesia : Evaluation Of Economic Developments In 2005, Outlook, And Policy Direction Of Bank Indonesia - Bank Sentral Republik Indonesia
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July 19, 2019
No.7/104 /PSHM/Humas

Today, Tuesday, December 6, 2005, the Board of Governors' Meeting at Bank Indonesia deliberated its assessment of the economy in 2005, the economic outlook for 2006, and the policy direction of Bank Indonesia.  During the meeting, the Board of Governors of Bank Indonesia expressed the following views.

Evaluation of Economic Developments in 2005

From an overall perspective, the Indonesian economy has faced daunting challenges.  Adverse conditions in the global economy, particularly with the sharp rise in oil prices and the global monetary tightening cycle, have significantly hampered efforts to sustain growth momentum and macroeconomic stability.

Heavy reliance on imports to sustain domestic economic activity has rendered the economy structurally susceptible to changes in external conditions.  Economic expansion has slowed with investment deterred by escalating production costs brought on by increased fuel prices and delays in various regulatory reforms in investment and infrastructure development.  Consumption has also declined because of weakened public purchasing power and the new upward movement in interest rates.  Externally, exports have performed below expectations due to the global economic downturn and weakening competitiveness.  Bank Indonesia envisages that economic growth for 2005 overall will reach about 5.3%-5.6%.

Domestic macroeconomic stability has been significantly affected by external shocks caused by soaring world oil prices and the global monetary tightening cycle.  High international oil prices led to sharply increased demand for foreign currency on the domestic market.  Aggravating this are adjustments in investment portfolios as foreign investors respond to overseas interest rate movements and the continued limited scale of foreign direct investment (FDI).  On Indonesia's relatively thin currency market, the twin shocks produced considerable volatility in the exchange rate.  Depreciation in the rupiah and the recent hike in fuel prices have significantly boosted inflation.  As a result, Bank Indonesia expects inflation for 2005 to reach 18%, while core inflation at end of year is forecasted at 9.5%.

Within the context of these risks, the banking sector continues to chart encouraging results, marked by steady improvement in the bank intermediary function.  In October 2005, growth in loan disbursements was recorded at 21%, indicating that the 22% targeted credit expansion for 2005 is well within reach.  Nevertheless, the NPLs ratio is climbing because of mounting credit risk associated with rising interest rates and increased risk in the real sector.  In October 2005, NPLs gross reached 8.4% gross and NPLs net 4.7%.  Looking ahead, the escalation in credit risk calls for even greater vigilance from the banking sector.

Economic Outlook in 2006

On the eve of 2006, the main challenges looming for Bank Indonesia are how to restore macroeconomic stability and rebuild public and investor confidence in the prospects for the Indonesian economy.

Taking into account the relatively flat growth in the global economy and depth of the issues faced in 2005, in Bank Indonesia's estimation the growth taking place in the economy remains driven by consumption. This consumption fueled mainly by increased government spending and the onset of recovery in public purchasing power associated with the planned increases in salaries and the minimum wage.  Assuming that government investment in infrastructure and oil and gas sector has begun and that various laws offering incentives to business, such as the new tax law, will take effect in mid-2006, in Q3/2006 a shift is expected with economic growth driven more by investment.

The upswing in the economic growth cycle from Q3/2006 is also supported by projections of steady decline in inflation, which is forecasted to reach about 8% in 2006.  This outlook is supported by the assumption of greater restraint in inflation determinants, with a more stable exchange rate, growth still below capacity, and minimum increases in administered prices.

In regard to financing of economic activity, the rise in domestic interest rates will force banks to make adjustments on both sides of the balance sheet.  On the assets side, higher interest rates carry the risk of increased NPLs, while cost of funds on the liabilities side will also rise.  These conditions may affect bank performance with risk of deterioration in the bank intermediary function.  For this reason, Bank Indonesia policy in the banking sector will focus on creating space to sustain the intermediary function, among others review of Bank Indonesia Regulation 7/2/2005 concerning Asset Quality for Commercial Banks.  In other areas, new measures will soon be introduced to strengthen the banking system through application of good corporate governance and capital requirements based on Basle II.  Within the context of banking consolidation, Bank Indonesia will undertake a study of the single presence policy in bank ownership.

Monetary Policy Direction of Bank Indonesia

Based on the assessment of economic developments as of November 2005, CPI inflation in 2006 and 2007 is predicted to decline.

For inflation expectations to be consistently guided towards the medium-term inflation target, Bank Indonesia will hold a steady course in its tight bias monetary policy stance and optimize the use of the various instruments at its disposal.  Accordingly, Bank Indonesia in the Board of Governors' Meeting has decided to raise the BI Rate by 50 basis points (bps) to 12.75%.

The rise in the BI Rate is regarded as still commensurate with efforts to sustain the pace of economic recovery. In addition, the BI Rate level is also seen as sufficient to maintain stability in financial market conditions and adjustment processes as economic players respond the increase in fuel prices and influences from the external sector.
  

Jakarta, December 6, 2005
Directorate of Strategic Planning
and Public Relations
 
Halim Alamsyah
Director

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