A dovish Bank Indonesia to remain cautious

Bank Indonesia's (BI) recent string of dovish statements has fueled expectations of an aggressive policy loosening this year.The indications are clear that BI will lower its interest rates further, including the reserve requirement rate (RRR). Given that BI seems confident of reaching the 3-5% inflation target this year, one may think that a BI rate at 6.5% (if not lower) is highly likely. This is considering real interest rates are historically circa 1.5%. 

Back in late-2010, the motivation to raise the RRR to 8% from 5% was to prevent massive capital inflows amid the US Fed QE program. As the US Fed tightening is now ongoing, BI may be inclined to lower its RRR. We have already seen one 50bps cut on the RRR in Nov15 and more are likely in the offing. 

BI is expected to remain cautious going forward. Against the current backdrop, managing stability of the rupiah is presumably the most important policy task. when BI had to step in aggressively in the market amid selling pressure following China devaluation of its currency. Risks in global markets cannot be ignored given lingering uncertainties in the global economy. 

"Some in the markets may end up disappointed if BI were to be more conservative in this loosening cycle. But we reckon it may be the best thing to do", notes DBS Group Research.