Bank Mandiri sees central bank benchmark rate rate at 7.7 percent

Dadan Wijaksana, Jakarta

The central bank benchmark interest rate is projected to hover at a relatively modest rate of around 7.7 percent by the end of the year, despite a rising trend in U.S. interest rates and signs of rising inflationary pressures at home, according to one economist.

Martin Panggabean, chief economist at Bank Mandiri, said that inflation would remain relatively mild this year.

He said unless inflation went above 7 percent by the end of the year, a rapid increase in the interest rate of Bank Indonesia one-month SBI promissory notes was unlikely.

His statements came a day after the Central Statistics Agency (BPS) reported that inflation in July (year-on-year) accelerated to 7.2 percent due to a weakened rupiah and higher education costs at the start of the school year.

The year-on-year inflation during the past three months had been on a rising trend. The on-year inflation in June was 6.8 percent.

With the rising inflationary pressure, some now think that the government inflation target of 6.5 percent for this year will not be met. Some analysts have even suggested that the central bank should start increasing its benchmark interest rate to both help curb the inflationary pressures and defend the rupiah.

However, according to Martin, the nation's core inflation in July actually stood at a slower pace of 6.1 percent -- something that should help ease the pressure of a hefty interest rate hike.

The central bank, for the time being, has avoided a hike in interest rates, but some of its officials indicated that Bank Indonesia would eventually increase the rates if the market demands required it.

Currently, Bank Indonesia absorbs excess liquidity in the banking sector as a monetary tightening measure to defend the local unit and curb inflation.

The SBI is hovering at 7.34 percent, which is seen as the most ideal interest rate level under the current economic conditions and sufficient to maintain interest in rupiah assets and keep the purchasing power of consumers, a key ingredient for economic growth during the past couple of years.

A high interest rate environment would slow down economic growth and create heavier burdens on the government to service its domestic debts. But the higher rate would surely benefit banks and their investors as they would obtain higher revenue from government bonds they hold.

Previously, economic reports from Citigroup and Standard Chartered Bank also predicted a modest rate in SBI on the assumption that the U.S. rate hike would be gradual.

The U.S. Federal Reserve is set to convene this week, with global analysts seemingly unanimous in predicting a rise of about 25 basis points in the U.S. benchmark interest rate from 1.25 percent at present.

The Fed lifted the rate in June for the first time in four years.

Further hikes are also predicted later this year.

Still, with the rupiah estimated to strengthen, along with other currencies, against the dollar leading up to year's end as a result of the huge U.S. trade and current account deficit, and inflationary pressure would also lessen.

Citigroup predicts that the SBI will be at 7.75 percent at year's end and StanChart says 7.7 percent.