Bank Indonesia cuts interest rate by 25bps to stimulate loan growth

The Indonesian central bank, Bank Indonesia, cut its 7-day reverse repo rate by 25 basis points to 4.75 percent during its meeting today. This was the sixth reduction in 2016. The central bank continues with its aggressive approach to underpin the economy. Real rates continue to be elevated in spite of the rate cuts in 2016. The central bank cut rates to stimulate loan growth.

Credit growth is expected to be restrained with the overhang from the non-performing loan and the deposit rate caps restricting the ability of banks to attract deposits, noted ANZ in a research note.

The Indonesian economy has been solely driven by private consumption with investment subdued particularly with public capital expenditure constrained. The economic growth is expected to be slower in the second half of this year. According to the Bank Indonesia, the economic growth is likely to be at the lower end of 4.9 percent to 5.3 percent in 2016. According to ANZ, the economy might expand 4.8 percent in the year.

Banks in Indonesia are cautious of extending loans and lowering rates. Growth in credit has been lacklustre. It has grown 8.8 percent y/y year-to-date. The central bank has downwardly revised its year-end credit growth target for this year to 7 percent to 9 percent, considerably lower than its initial target of 12 percent to 14 percent. Non-performing loans have risen and are currently at 3.2 percent in August as compared with 2015’s average of 2.57 percent.

Average bank lending rates have just dropped by around half of the 100 basis points easing in the old reference rate in 2016. The Indonesia government intends to cut its lending rates target from 9 percent at the end of this year to 7 percent next year, stated ANZ.

With the loan growth back on track to meet the central bank’s revised downward loan growth target, the rate cut decision of today would be enough in this instance. The timing of the October rate reduction is appropriate as it is before the U.S. election in November and FOMC meeting in December, especially with BI’s aversion to market volatility, according to ANZ.

“Looking ahead, we expect Bank Indonesia to maintain rates for an extended period of time barring significant deterioration in the economy”, added ANZ.