RI economy to slow on rising oil, falling rupiah

Urip Hudiono and Rendi A. Witular, The Jakarta Post, Jakarta

Indonesia's economy will likely slow down this year, as soaring oil prices and a weakening rupiah are expected to continue fueling inflation and key interest rates to the point of decelerating growth in what has been the economy's backbone, consumption, economists say.

Nevertheless, Vice President Jusuf Kalla remains upbeat that the economy would remain strong this year and grow at a level of 6 percent as initially projected.

Bank Mandiri chief economist Martin Panggabean is estimating that though the country's gross domestic product (GDP) will still be able to expand higher than last year -- by 5.7 percent until the end of this year -- it will unlikely grow as fast as the previous projection of 6 percent.

"We are seeing the downward trend in economic growth, with consumption slowing down albeit the ability of investments to keep their momentum," he said during a presentation on Thursday of the bank's macroeconomic outlook.

The Central Statistics Agency (BPS) reported that Indonesia's economy grew by 5.13 percent last year, and by 6.35 percent during this year's first quarter.

Martin explained that the downward trend was the result of two main factors recently at play: the surge in global oil prices -- which broke the US$65 barrier on Thursday -- and the slide of the rupiah against the U.S. dollar -- still hovering at the Rp 9,800 level.

Both factors have put pressure on the state budget financing of the fuel subsidy allocation, pushing the government to cut the burden of these subsidies by raising domestic fuel prices.

A fuel price hike will put more pressure on the core inflation rate, which has already reached 7.1 percent, according to Mandiri. Indonesia's headline inflation, which includes volatile fuel and food prices, has reached 7.84 percent according to the BPS.

"This will all result in a higher inflation expectation," Martin said. "As a consequence, the central bank will have to raise its benchmark interest rates higher as well to tame the inflation."

Rising inflation will affect the public's purchasing power, thus eating into the country's domestic consumption that has been the driver of the economy since the economic crisis of the late 1990s. Rising interest rates, meanwhile, could affect business activities.

Bank Indonesia (BI) on Tuesday raised its benchmark BI rate by 25 basis points to 8.75 percent from a previous 8.5 percent. Mandiri is predicting it could reach 8.9 percent at year's end.

"Our estimate is that the rupiah will continue to weaken to between Rp 9,900 and Rp 10,000 to the dollar over the next three months," he said.

Sharing a similar view, Standard Chartered economist Fauzi Ichsan is also predicting that Indonesia's economy will only be able to grow by 5.7 percent this year, on oil price and rupiah volatility.

Fauzi sees that the country's inflation rate could reach 7.8 percent by the year's end as a result, with the central bank's one-month SBI reaching 9.25 percent and the rupiah ending up at Rp 9,500 to the dollar.

Later on Thursday, Kalla said the impact of the soaring global oil price, however, would be minimal on the country's economy.

"We are optimistic on the existing assumptions (on the growth, rupiah exchange rate to the U.S. dollar, inflation and BI interest rate)," he told the press after a meeting with economic ministers and World Bank officials.

Kalla said the purpose of inviting the World Bank to the meeting was to ask for their opinion on other countries' subsidies.

"Most subsidies in Turkey, Brazil and Mexico are for agriculture sector, while ours are for fuel. Therefore, we had to decline their advice," he said.

World Bank country director Andrew Steer said he had offered several systems of social protection to prevent more people from falling below the poverty line, such as those imposed in Latin American and European countries.

"There are about 36 million people, or nine million families, living below the poverty line in Indonesia," he added.

"What is difficult for Indonesia is that the scale of the country is so large. There is a bigger and complicated problem to address. But we are sure that the Indonesian government can address it if it has a strong will to do it."