Concerns over GDP growth outlook prompted the rate cut in Indonesia

Bank Indonesia cut its key BI rate by 25bps On Thursday. BI also lowered both the deposit and lending facility rates by 25bps. The policy statement suggests that BI is biased towards more policy loosening going forward. BI is expected to cut another 25bps in 1Q15 before leaving the BI rate at 7% for the rest of the year. 

Given BI's previous hints of a rate cut, the decision to cut is partly an effort to maintain policy credibility. The core inflation has slipped below 4% in Dec15, its lowest in 5 years. The BI seems encouraged that markets have been well behaved in the aftermath of the US Fed rate lift-off. Global financial market uncertainties had subsided after the lift-off. BI noted that rupiah had strengthened in Dec15, in BI's view. Indeed, the unit has also outperformed most of its regional peers during the past one month. 

Low oil price will help to ease inflationary pressures going forward but a weaker rupiah will negate the impact. Had it been a few months of sub-4% readings, it would have been much easier to justify the cut. It seems premature to declare that inflation will certainly stay low going forward though. The sharp fall in core inflation in Dec15 could well be a one-off. 

There is still every reason to remain cautious on the rupiah outlook. While global markets continue to be preoccupied with monetary policy divergence in the G3, the policy fine-tuning in China has also spooked the markets. Given how regional markets have fared in the past couple of weeks, yesterday's rate cut was quite a bold move by BI. 

The downside risks to GDP growth had ultimately prompted the rate cut. This month's policy statement lacked the usual optimism on the GDP growth outlook. There was no mention of the 5.2-5.6% 2016 GDP growth estimate, unlike in the previous statements. Instead, BI suggested that GDP growth momentum had been slightly disappointing in 4Q15. If it were true that GDP growth will disappoint, BI would probably want to frontload the rate cuts early in the year