MONETARY POLICY REVIEW Economy, Monetary, and Finance

Transcription

1 MONETARY POLICY REVIEW Economy, Monetary, and Finance July 18

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3 Monetary Policy Review July 18 The Monetary Policy Review (MPR) is published monthly by Bank Indonesia after the Board of Governors Meeting each January, March, April, June, July, September, October and December. This report is intended as a medium for the Board of Governors of Bank Indonesia to present to the public the latest evaluation of monetary conditions, assessment, and forecast for the Indonesian economy, in addition to the Bank Indonesia monetary policy response published quarterly in the Monetary Policy Report in February, May, August, and November. Specifically, the MPR presents an evaluation of the latest developments in inflation, the exchange rate, and monetary conditions during the reporting month and decisions concerning the monetary policy response adopted by Bank Indonesia. The Board of Governors PERRY WARJIYO Governor MIRZA ADITYASWARA Senior Deputy Governor ERWIN RIJANTO Deputy Governor SUGENG Deputy Governor ROSMAYA HADI Deputy Governor DODY BUDI WALUYO Deputy Governor Bank Indonesia Monetary Policy Review July 18 1

4 Table of Content 1. Monetary Policy Statement 3. The Economy and Monetary Policy Global Economic Developments Global Financial Market Risks Global Commodity Markets Domestic Economic Growth Indonesia Balance of Payments Rupiah Exchange Rate Inflation Financial Market Interest Rate Transmission Economic Liquidity Bank Intermediation Nonbank Financing Stock Market SBN Market Monetary Policy Review July 18 Bank Indonesia

5 1 Monetary Policy Statement The BI Board of Governors agreed on 18 th and 19 th July 18 to hold the BI 7-day Reverse Repo Rate at 5.5, while maintaining the Deposit Facility (DF) and Lending Facility (LF) rates at.5 and 6. respectively. The policy is consistent with efforts by Bank Indonesia to maintain domestic financial market attractiveness against a backdrop of pervasive uncertainty blighting the global financial markets in order to maintain stability in general and rupiah exchange rate stability in particular. Bank Indonesia believes that the macroprudential policy easing measures will effectively increase liquidity management flexibility as well as banking intermediation for economic growth. Bank Indonesia has also strengthened coordination with the government and other related authorities to maintain stability and implement structural reforms in order to reduce the current account deficit, including foreign exchange from tourism and private sector infrastructure financing. Moving forward, Bank Indonesia will continue to monitor the global and domestic economic developments and outlook in order to strengthen the policy mix response and maintain the attractiveness of the domestic financial markets. Global financial market uncertainty remains high, amid uneven world economic growth dynamics. Bank Indonesia forecasts high US economic growth with increasing inflation, while weaker than previously predicted economic growth in Europe is expected and China s economic growth has thus far failed to kick into a higher gear. Global economic dynamics prompted a slowdown in the growth of world trade volume and commodity prices. With inflation increasing, the Fed is forecast to continue the Fed Fund Rate (FFR) hikes. The US-China trade row has elevated risks in the global financial markets and threatens the sustainability of the global economic recovery. Global economic developments have also prompted broad USD appreciation against nearly all global currencies, including the rupiah. High uncertainty in the global financial markets has also resulted in a capital reversal from emerging markets. At home, national economic growth momentum continued to build in the second quarter of 18 on strong domestic demand. Household consumption was backed by fiscal stimuli, higher incomes, controlled inflation and growing consumer confidence amongst the middle and upper classes. Solid investment is expected to endure, not only supported by infrastructure projects but also non-infrastructure projects through building and non-building investment. Strong domestic demand has edged up import growth, particularly imports of capital goods such as transportation equipment, machinery, equipment and spare parts. Meanwhile, export growth is lower than previously predicted due to sliding international commodity prices. The weaker position of net exports has affected the domestic economic growth outlook for 18, which is thus approaching the lower end of the range. Bank Indonesia Monetary Policy Review July 18 3

6 Indonesia s trade balance recorded a surplus in June 18, reinforced by a non-oil and gas trade surplus coupled with a narrower oil and gas trade deficit. The non-oil and gas trade surplus stemmed from fewer imports of machinery and mechanical appliances, electrical machinery and equipment, iron and steel, plastics and plastic products as well as organic chemicals. On the other hand, the oil and gas trade deficit narrowed as non-oil and gas exports surged and non-oil and gas imports declined. Consequently, the trade balance overcame a USD1.5 billion deficit in May 18 to record a USD1.7 billion surplus in June 18. In general, the trade surplus in June 18 has alleviated pressures on the current account deficit, which is predicted to expand in the second quarter of 18. The current account deficit in 18 is estimated to remain within an manageable threshold of 3 of GDP. Therefore, the position of reserve assets stood at USD119.8 billion in June 18, equivalent to 7. months of imports or 6.9 months of imports and servicing government external debt, which is well above the international standard of three months. The rupiah experienced depreciatory pressures against the stronger USD. The rupiah strengthened at the beginning of July 18 in response to Bank Indonesia s pre-emptive, frontloading and ahead-of-the-curve monetary policy instituted at the Board of Governors meeting (RDG) held in June 18 through a 5bps hike in the BI 7-Day (Reverse) Repo Rate. The favourable market response drew non-resident capital inflows to domestic financial markets, especially tradeable government securities (SBN), thus prompting rupiah appreciation. Pressures on the rupiah re-emerged as uncertainty enveloped the global financial markets, which triggered broad USD appreciation. On 18 th July 18, the rupiah stood at Rp1,5/USD, down.5 (ptp) on the level recorded at the end of June 18. Consequently, the rupiah has depreciated by 5.81 (ytd) on the level posted at the end of 17, not as severe as that reported in other developing economies, including the Philippines, India, South Africa, Brazil and Turkey. Moving forward, Bank Indonesia will remain vigilant of global financial market uncertainty risks, while maintaining the rupiah exchange rate in line with the currency s fundamental value, supported by financial market deepening efforts. The policies remain backed by dual intervention strategy and monetary operations to maintain adequate liquidity, especially in the rupiah and interbank swap markets. Inflation remains under control with stable supply maintained. CPI inflation was recorded at.59 (mtm) in June 18, up from.1 (mtm) the month earlier. The increase stemmed from the seasonal spike in demand during Eid-ul-Fitr. Despite accelerating, the rate in June 18 was below the historical Eid average for the past four years at.81 (mtm). Annually, therefore, headline inflation decreased from 3.3 (yoy) to 3.1 (yoy) in the reporting period. Controlled inflation was backed by stable core inflation in line with Bank Indonesia s policy consistency to form and anchor rational inflation expectations, including efforts to maintain the rupiah exchange rate in line with the currency s fundamental value. Moreover, inflationary pressures on volatile foods (VF) were lower than the corresponding historical average during Eid-ul-Fitr as a result of adequate supply. Conversely, inflation of administered prices (AP) increased, induced by rising airfares and intercity rates as demand increased during Eid-ul-Fitr. Looking forward, inflation in 18 is predicted around the midpoint of the 3.5±1 (yoy) target range. Furthermore, policy coordination between Bank Indonesia and the Central Government and Regional Administrations will be strengthened in terms of controlling inflation. Monetary Policy Review July 18 Bank Indonesia

7 The financial system remains stable and the bank intermediation function is improving, while nonbank financing continues to expand. Maintained financial system stability is reflected in the high Capital Adequacy Ratio (CAR) reported by the banking industry at.1 and the liquidity ratio of.3 in May 18. In addition, the banking industry maintained a low level of non-performing loans (NPL) at.79 (gross) or 1.8 (net). Financial system stability is also contributing to improvements in the bank intermediation function. Deposit growth declined, however, from 8.1 (yoy) to 6.5 (yoy) but Bank Indonesia is confident that the slump will not hamper credit growth as a result of adequate bank liquidity to support development financing. Credit growth accelerated from 8.9 (yoy) to.3 (yoy) in May 18. On the other hand, nonbank economic financing through the financial markets, such as initial public offerings (IPO) and rights issues, corporate bonds, medium-term notes (MTN) and Negotiable Certificates of Deposit (NCD), soared 6. (yoy) in May 18. Based on the recent domestic economic gains and progress in terms of banking industry and corporate consolidation, Bank Indonesia projects stronger credit and deposit growth in 18 at -1 (yoy) and 9-11 (yoy) respectively. Improving bank intermediation is also supported through Bank Indonesia s efforts to relax macroprudential policy by easing Loan to Value (LTV) policy and the implementation of the Macroprudential Intermediation Ratio, Macroprudential Liquidity Buffer and Average Reserve Requirements. Bank Indonesia Monetary Policy Review July 18 5

8 The Economy and Monetary Policy GLOBAL ECONOMIC DEVELOPMENTS Global financial market uncertainty remains high, amid uneven world economic growth dynamics. Bank Indonesia forecasts solid US economic growth with rising inflation, while weaker-than-predicted economic growth in Europe is expected and China s economic growth has thus far failed to kick into a higher gear. Global economic dynamics prompted a slowdown in the growth of world trade volume and commodity prices. With US inflation increasing, the Federal Reserve is forecast to continue hiking the Fed Fund Rate (FFR). The US-China trade tensions have elevated risks in the global financial markets and threaten the sustainability of the global economic recovery. Global economic developments have also prompted broad USD appreciation against nearly all global currencies, including the rupiah. Widespread uncertainty in the global financial markets has also resulted in a capital reversal from emerging markets. Bank Indonesia predicts US economic growth momentum to persist on the back of stronger consumption and investment as well as expansive government spending (Graph.1). Resilient consumption is supported by low unemployment and the knock-on effect of recent fiscal policy. The positive Conference Board Consumer Index in the second quarter of 18 confirmed solid US consumption. On the other hand, accelerating non-residential investment and strong manufacturing industry demand pointed to positive investment performance in the second quarter of 18. Fiscal policy through corporate tax reductions is also expected to catalyse second quarter investment. Meanwhile, a larger budget deficit increased the second quarter government Consumption Fixed Investment Net Export Gov. Spending GDP Source: Bloomberg, calculated Graph.1 US Economic Growth yoy I II III IV I II III IV I II III IV I II-F Monetary Policy Review July 18 Bank Indonesia

9 spending figures. Indications of production gains are predicted to persist in the second quarter of 18, as corroborated by the high ISM All Economy index in May 18 together with the upward trends tracked by the Manufacturing PMI and capacity utilisation indicators. Solid import and export activities were also recorded, particularly import activity in line with increasing consumption and investment activities. Inflationary pressures continued to accumulate in the United States, with inflation expectations rising. CPI inflation and core inflation in the US were recorded in June 18 at.9 (yoy) and.3 (yoy) respectively, up from.8 (yoy) and. (yoy) the month earlier (Graph.). Increasing economic momentum along with positive labour market and wage dynamics contributed to rising inflation in the United States. Furthermore, inflation expectations in the near term also increased to exceed the target. Based on the Consensus Forecast (CF), inflation expectations averaged.5 (yoy) in June 18, up from. (yoy) in March 18 and from.3 (yoy) in February PCE Proj CPI (yoy) PCE (yoy) PCE (mtm) Target CPI Core (yoy) PCE Core (yoy) Source: Bloomberg, calculated Graph. US Inflation Economic moderation is expected in Europe in line with a slowdown reported in terms of consumption and investment activities (Graph.3). Subdued retail sales and less upbeat consumers pointed to slower consumption activity. In addition, investment activity is also predicted to slow in the third quarter of 18, primarily affecting machinery despite solid investment in the construction sector. Congruently, several production indicators are also expected to slow in the second quarter of 18, particularly the Manufacturing PMI, Production Index and Capacity Utilisation indicators. On the other hand, Europe s trade balance is expected to bounce back in the second quarter of 18 on faster exports. Nevertheless, economic uncertainty remains an issue in Europe, triggered by the recent escalation in the US- Consumption Fixed Investment Net Export Gov. Spending GDP I II III IV I II III IV I II III IV I II-F Source: Bloomberg, calculated Graph.3 Europe Economic Growth yoy Bank Indonesia Monetary Policy Review July 18 7

10 Europe trade war, the formation of a populist government in Italy and unresolved Brexit negotiations. Rising energy prices pushed up Europe s inflation in June 18. CPI inflation stood at. (yoy) in June 18, which is in line with the ECB s target (Graph.). An 8 bump in energy prices caused by rising oil prices induced inflation in Europe. In contrast, core inflation remained low in the reporting period at just 1. (yoy), compared with 1.1 (yoy) in May 18 and.8 (yoy) in April 18. Source: Bloomberg, calculated CPI mtm CPI yoy CPI Core yoy Inflation ECB Target Japan s economy rallied in the reporting period, boosted by consumption activities. After experiencing a deep decline in the first quarter of the year, economic growth in Japan is expected to rebound slightly in the second quarter, backed by increasing consumption with the numbers pointing to stronger retail and automotive sales (Graph.5). Increasing consumption is also supported by lower unemployment, higher incomes and tax reforms for the 18 financial year that commenced on 1 st April 18. Meanwhile, investment is predicted to decelerate in the second quarter of 18, as indicated by dwindling demand for machinery and equipment as well as a dip in the Manufacturing PMI. Headline inflation in Japan has continued to decline on par with core inflation. CPI inflation in Japan was recorded at.7 (yoy) in May 18, decreasing on the rate reported at the beginning of the current year (Graph.6). Lower headline inflation is consistent with milder inflationary pressures on goods, including durable goods and soft goods or consumables. Likewise, core inflation slipped further away from the BoJ s target in May 18, falling from.9 (yoy) in the previous period to.7 (yoy) (Graph.6). Weaker investment has been the main driver of economic moderation in China. Fixed Asset Investment (FAI) has slowed on the continuing downward infrastructure FAI trend Source: Bloomberg, calculated yoy.5 Consumption Investment Gov. Spending Net Export Total. II III IV I II III IV I II III IV I II-F Source: Bloomberg Graph. Europe Inflation Graph.5 Japan Economic Growth Tokyo CPI CPI CPI ex. Fresh Food CPI ex. Food and Energy Graph.6 Japan Inflation yoy Monetary Policy Review July 18 Bank Indonesia

11 as the Chinese Government restricts local government financing through deleveraging (Graph.7). Meanwhile, manufacturing and real estate FAI remains solid in line with robust manufacturing industry performance and the shantytown redevelopment project. The downside risks on export demand are evidenced by a drop in the New Export Orders component of the PMI, reflecting nascent signs of the looming trade war. On the other hand, resilient consumption is expected despite moderating in May 18, as substantiated by fewer outstanding household loans and slower retail sales. Relatively stable inflation was reported in China, supported by lower food inflation. CPI inflation in China was recorded at 1.8 in May, unchanged on the month earlier and below the 5-year average of (Graph.8). Furthermore, inflation in China is also below the government s 3 target. Stable headline inflation is in line with lower food inflation despite higher non-food inflation stemming from rising transportation costs due to elevated energy prices. Weaker consumption has restrained economic growth in India (Graph.9). Slower wage growth and rising unemployment have undermined consumption in India. Conversely, solid investment growth was reported in the second quarter of 18, as confirmed by the high industrial production index, including the manufacturing sector. In terms of the external sector, India has maintained a large trade deficit in line with the high oil price that pushed up the value of imports. Inflation in India accelerated on the rising oil price. CPI inflation in India was recorded at.8 (yoy) in May 18, up from.58 (yoy) the month earlier (Graph.). Food inflation induced headline inflation along with inflationary pressures on petrol and electricity due to the rising oil price. Core inflation, FAI ytd yoy FAI Real Estate ytd yoy FAI Infrastructure ytd yoy FAI Manufacture ytd yoy Source: Bloomberg, calculated; Data is accumulative Graph.7 Fixed Asset Investment (FAI) by Economic Sector Source: Bloomberg, calculated CPI food CPI CPI Non-food CPI Core Graph.8 China Inflation Graph.9 India Economic Growth yoy yoy Consumption Gov. Spending Net Export Investment 1 8 GDP F Source: Bloomberg, calculated Bank Indonesia Monetary Policy Review July 18 9

12 excluding food, tobacco and energy, was also observed to increase from 5.77 (yoy) in April 18 to 6.5 (yoy) in May 18. The main contributors to core inflation were clothing, health as well as transportation and communications. Food and Beverages Fuel and Electricity CPI (yoy) Tobacco and Alcohol CPI Core 8 6 GLOBAL FINANCIAL MARKET RISKS Global financial market uncertainty has increased due to US policies that have led to a tightening of global liquidity. Risks also stemmed from uneven global economic growth dynamics, which undermined world trade volume and international commodity prices. In addition, high UST yield volatility, the rising global oil price and deteriorating US- China trade relations have exacerbated global financial market uncertainty. The prevailing risks have triggered a tighter monetary policy response in various countries, with the corresponding central banks raising policy rates. In general, increasing global financial market uncertainty has strengthened the DXY and raised the -year UST yield (Graph.11). Furthermore, current global economic dynamics have prompted a significant capital reversal from emerging market economies (Graph.1), thereby compounding the uncertainty and risks in emerging market economies and accelerating the rebalancing of capital flows in EME, including Indonesia. GLOBAL COMMODITY MARKETS Global economic dynamics have undermined world trade volume and international commodity prices, thus potentially spurring downgraded projections. World trade volume in 18 could potentially fail to hit the previous projection due to moderation in Europe and protectionist trade policies stoked by the impending trade Source: Bloomberg Index Graph. India Inflation DXY US Yield Yr (rhs) Source: Bloomberg Graph.11 Financial Market Risks Graph.1 Capital Flows in Emerging Markets Yield USD Billion 6 Debt Flow Equity Flow Total Flow Source: Bloomberg Monetary Policy Review July 18 Bank Indonesia

13 row. In addition, slower import growth in advanced economies, as reflected by declining PMI in Europe and Japan, could also supress world trade. The prices of most non-energy commodities are sliding on increasing supply. The monthly average CPO price decreased in June 18 due to limited demand from India and declining imports to China as a result of abundant supply of viable substitutes. Furthermore, Malaysia has decided to ramp up CPO production. On the other hand, rubber production is outstripping rubber consumption, which has precipitated lower prices, while concerns over the impact of the looing trade war on China s economy have also supressed rubber prices. The prices of copper, lead and aluminium have also fallen on negative sentiment stemming from potential economic moderation in China, escalating US-China trade tensions and the 5 tariffs imposed by the United States on imports from Canada, EU and México. In contrast, nickel prices increased on strong demand for electric car batteries in China. Coal prices continued to rise, but a transitory upward trend is expected. Coal prices have tracked a rising trend since May 18 as demand from the largest coal consumers in Asia has increased, namely China, India and Japan, in contrast to the supply-side disruptions (Graph.13). Supply has been disrupted in China due to falling production after the government increased safety inspections of several mines in the country and in India due to the onset of the monsoon season. Additionally, measures in China and India to convert coal to cleaner sources of energy, coupled with policy in India to reduce coal imports in order to manage the current account deficit, will further supress demand for coal. The global oil price is expected to continue rising in 18 on declining supply. The price of Brent oil remained high in June 18, Source: Bloomberg Graph.13 Global Coal Price USD/MT Bank Indonesia Monetary Policy Review July 18 11

14 averaging USD75./barrel, subsequently rising to an average of USD75./barrel in July 18 (Graph.1). The persistently high price of oil is in line with declining supply, as reflected in the OECD s oil stock data that dipped below the 5-year average. Oil production growth decreased slightly on limited productivity gains coupled with a pipeline bottleneck in the Permian Basin. In addition, US sanctions on Iranian oil together with disruptions to production in Libya, Canada, the Former Soviet Union (FSU), excluding Russia, and other oil producing countries restrained supply. Consequently, oil price uncertainty is expected to remain high in as spare OECD capacity is eroded by increasing production. Brent Price Quarterly Average Source: Bloomberg, calculated Graph.1 Global Oil Price USD per Barrel Month Average Jan Feb Mar Apr May Jun DOMESTIC ECONOMIC GROWTH National economic growth momentum was maintained in Indonesia on solid domestic demand in the second quarter of 18 (Table.1). Household consumption is expected to accelerate in line with fiscal stimuli, rising incomes, controlled inflation and increasing consumer confidence amongst the upper-middle class. Robust investment growth was not only supported by infrastructure projects but also non-infrastructure projects through building and non-building investment. Strong domestic demand prompted an import growth surge, particularly in terms of capital goods such as transportation equipment, machinery, equipment and spare parts. Meanwhile, weaker-than-expected export growth was influenced by sliding international commodity prices. The weaker net export position has affected the economic growth outlook for 18, which is now forecasted in towards the lower end of the (yoy) projection. Household consumption is expected to accelerate in line with fiscal stimuli, rising incomes, controlled inflation and increasing consumer confidence amongst the middle and upper classes. Public 1 Monetary Policy Review July 18 Bank Indonesia

15 Table.1 Economic Growth by Expenditure Percent, yoy Components Household Consumption Non-Profit Institutions Serving Households Government Consumption Investment Building Investment Non-building Investment Exports Import GDP I II III IV I Source: BPS purchasing power improved in line with rising incomes among low and medium-income households, which increased amidst low and controlled inflation. Higher incomes amongst low-income households were reflected by improvements in the farmers terms of trade and farm workers real wages, which achieved positive growth as of June 18 (Graph.15). Incomes were also boosted by fiscal stimuli in the form of the Government s social assistance program (bansos), which continued in the second quarter of 18. Meanwhile, middleincome households, particularly private sector salaries, were indicated to improve by the salaries expense component in the corporate sector in the first quarter of 18 (Graph.16). Furthermore, public sector employees also enjoyed a bump in their paycheques, originating from disbursements of annual Eidul-Fitr allowances (THR) as the components and scope of the THR bonuses were expanded, combined with the remuneration program in effect at government ministries and institutions. Positive household consumption was also consistent with stronger consumer confidence amongst the upper-middle class. The Consumer Confidence Index (CCI) of households spending more than Rp million per month increased in the second quarter of 18, driven by confidence in current economic dynamics. On the other hand, consumer confidence amongst middle and low-income households was stable (Graph.17). Source: BPS, calculated Terms of Trade Real Wages yoy I II III IV I II III IV I II Graph.15 Farmers Terms of Trade and Farm Workers Wages yoy yoy Source: Bloomberg Salary Expense (Real) Disposable Income (Real) - rhs I II III IV I Graph.16 Salary Expense and Disposable Income Bank Indonesia Monetary Policy Review July 18 13

16 Stronger retail and automotive sales also evidenced solid consumption. Retail sales tracked an upward trend in second quarter of 18, led by clothing, household equipment as well as food and beverages. Increasing retail sales were apropos to seasonal trends during Eid-ul-Fitr. Faster consumption growth was also induced by accelerating automotive sales in the second quarter of 18, driven by passenger vehicle sales in line with infrastructure development activities and demand from those travelling to celebrate Eid-ul-Fitr with family. Consistent with higher car sales, motorcycle sales also increased (Graph.18). Solid investment growth was not only supported by infrastructure projects but also non-infrastructure projects through building and non-building investment. In terms of building investment, private and public physical infrastructure project realisation recorded solid growth as of June 18. Infrastructure project realisation was supported by efforts to accelerate the completion rate of national strategic projects, particularly roads, railways, airports and irrigation. In addition to national strategic projects, several other projects were also completed to facilitate the annual flow of travellers returning to their families homes for Eid-ul-Fitr in 18, including the Pasuruan-Probolinggo toll road. Furthermore, building investment was also supported by the gradual recovery of the private property market, particularly residential property. The increase of construction activity was confirmed by import data for infrastructure-related goods, which experienced a growth surge (Graph.19). Faster investment growth also originated from non-building investment in infrastructure, mining and the manufacturing industry. Such dynamics were indicated by persistent heavy equipment sales in the second quarter of 18, particularly in the mining and infrastructure sectors (Graph.), in line with corporate expansion in anticipation of growing demand relating to commodity Index 135 Consumer Confidence Index (CCI) Spending Rp 1- Million 13 Spending Rp -5 Million Spending >Rp5 Million I II III IV I II III IV I II III IV I II III IV I II Source: Bank Indonesia Graph.17 Consumer Confidence Index Retail Sales (Total) Car Sales Motorcycle Sales I II III IV I II III IV I II III IV I II Source: Bank Indonesia, Gaikindo, AISI Source: Bank Indonesia Graph.18 Retail and Automotive Sales Infrastructure projects are also affected Infrastructure projects are not affected I II III IV I II III IV I II III IV I II III IV I II III IV I II Graph.19 Import of Infrastructure-Related Goods yoy yoy Monetary Policy Review July 18 Bank Indonesia

17 exports and infrastructure development. Furthermore, corporate expansion was also indicated in the manufacturing industry by a surge of manufacturing exports along with strong domestic demand, as corroborated by the manufacturing PMI that remained above the 5-point threshold that separates expansion from contraction in the manufacturing industry. Solid non-building investment was consistent with rising imports of capital goods, primarily in the form of machinery and mechanical appliances as well as transportation equipment (Graph.1). In addition, the investment outlook was also supported by improving business tendency in line with a domestic climate more conducive to business and investment. Forestry Construction Agriculture Mining Source: United Tractors Graph. Heavy Equipment Sales Unit Strong domestic demand induced import growth, particularly imports of capital goods such as transportation equipment, machinery, equipment and spare parts. The import growth spurt stemmed predominantly from capital goods and consumer goods amidst stable imports of raw materials. Increasing infrastructure activity linked to electricity and transportation projects stimulated import growth, including: (i) imports of transportation equipment such as bulldozers and railways carriages; (ii) imports of non-transportation equipment, such as iron processors, tractorscrapers, power plant machinery and equipment as well as telecommunications equipment; and (iii) imports of spare parts and other intermediate base metal processing equipment. Meanwhile, imports of raw materials used in infrastructure development also ticked upwards, boosted by raw materials for iron and steel products as well as noniron and non-steel products. Congruent with imports for infrastructure, imports of noninfrastructure capital goods also increased, particularly in the manufacturing industry, including the chemicals and textiles subsectors, as well as the mining sector. yoy 5 Import Total Consumer Goods Raw Materials Capital Goods I II III IV I II III IV I II III IV I II Source: Bank Indonesia Graph.1 Real Non-Oil and Gas Imports Bank Indonesia Monetary Policy Review July 18 15

18 Government spending increased in the second quarter of 18 compared with conditions in the previous period. Based on budget realisation as of June 18, procurement and personnel expenditure by the Central Government helped to drive overall government consumption. Furthermore, the government also decided to accelerate social assistance disbursements (bansos), contrasting slower growth of reginal transfers as Village Fund realisation declined. Externally, export growth was weaker than expected due to downside pressures on international commodity prices. Lower export growth stemmed from declining agricultural exports, while manufacturing and mining exports increased (Graph.). International CPO prices fell, which lowered the value of CPO exports as the main drag on agricultural export performance (Graph.3). CPO exports were also hurt by weaker demand. In contrast, manufacturing exports increased as of May 18, buoyed by exports of chemicals as well as iron and steel. On the other hand, shipments of metallic minerals and coal maintained solid mining exports. INDONESIA BALANCE OF PAYMENTS As of June 18, Indonesia s balance of payments (BOP) recorded a USD1.7 billion surplus, overcoming the previous USD1.5 billion deficit recorded the month earlier. The reversal stemmed from a non-oil and gas trade surplus and narrower oil and gas trade deficit (Graph.). Cumulatively from January to June 18, therefore, Indonesia s balance of payments (BOP) has recorded a USD1. billion deficit. Bank Indonesia considers BOP performance conducive to solid current account performance in June 18. The non-oil and gas trade balance recorded a USD.1 billion surplus in June 18, after non-oil and gas imports decreased. Total Mining Source: Bank Indonesia Source: Bank Indonesia Agriculture Manufacture I II III IV I II III IV I II Graph. Real Non-Oil and Gas Exports yoy 5 3 Total Manufacture - Mining Agriculture - -3 I II III IV I II III IV I II Graph.3 Non-Oil and Gas Export Prices Non-Oil and Gas Oil and Gas Total yoy Source: BPS, calculated Graph. Trade Balance USD Billion Monetary Policy Review July 18 Bank Indonesia

19 The non-oil and gas import decline stood at USD5.7 billion (mtm), primarily on the back of machinery and mechanical appliances, electrical machinery and equipment, iron and steel, plastic and plastic products as well as organic chemicals. Meanwhile, non-oil and gas exports fell USD3.3 billion (mtm) on declining shipments of vehicles and components, electrical machinery and equipment, machinery and mechanical appliances, wood and wooden products, as well as rubber and rubber products. From January to June 18, the non-oil and gas trade balance has recorded a cumulative surplus of USD. billion. USD Billion 3 1 IDR/USD 1,5 1, 13,5 13, -1 1,5 - SBSN Stock SUN SBI IDR/USD (rhs) -3 1, Source: Bank Indonesia, IDX, Bloomberg, calculated; *Data as of 9 June 18 Graph.5 Non-Resident Capital Flows The oil and gas trade deficit narrowed on rising exports and declining imports. The oil and gas trade deficit stood at USD. billion as of June 18, decreasing from USD1. billion in May 18. Such developments were explained by a USD.1 billion (mtm) increase of oil and gas exports coupled with a USD.7 billion (mtm) drop in oil and gas imports. Cumulatively from January to June 18, the oil and gas trade balance recorded a USD5. billion deficit, up from USD. billion in the same period one year ago. Non-resident portfolio investment outflow decreased in June 18. Nonresidents booked a net outflow of portfolio investment totalling USD889 million in June 18, down from USD1.3 billion the month earlier. By instrument, non-resident investors tended to release stock instruments and government debt securities (SUN) (Graph.5). Outflow pressures on stocks were amplified by intense pressures on US stock indexes as US yields increased and the US dollar appreciated. Meanwhile, non-resident investors were inclined to release SUN primarily after the FOMC meeting in June 18 together with deteriorating global trade relations. On the other hand, Government Islamic Securities (SBSN) recorded a net inflow in June 18. Thereafter, non-resident investors booked a Bank Indonesia Monetary Policy Review July 18 17

20 net inflow to SUN and SBSN instruments at the beginning of July 18, while outflow pressures on stocks remained. A strong position of reserve assets was maintained at the end of June 18. The position of reserve assets stood at USD119.8 billion in June 18, decreasing from USD1.9 billion in May 18 (Graph.6). Therefore, the position of reserve assets was equivalent to 7. months of imports or 6.9 months of imports and servicing government external debt, which is well above the international standard of three months. Servicing government external debt and rupiah exchange rate stabilisation measures amidst heightened global financial market uncertainty eroded the position of reserve assets in June 18. Nevertheless, Bank Indonesia considers the current position of reserve assets adequate, supported by domestic economic stability and a promising economic outlook as well as positive export performance. USD Billion Month Reserve Assets Months of Imports and Servicing Government External Debt (rhs) Source: Bank Indonesia Graph.6 Reserve Assets RUPIAH EXCHANGE RATE The rupiah experienced mild depreciatory pressures against board-based USD appreciation. The rupiah strengthened at the beginning of July 18 as the markets responded favourably to Bank Indonesia s pre-emptive, front-loading and ahead-of-the-curve monetary policy relayed at the BOG Meeting in June 18, manifesting in a 5bps hike in the BI 7-Day (Reverse) Repo Rate. The market response drew foreign capital inflows to the financial markets, particularly tradeable government securities (SBN), which prompted rupiah appreciation. Nevertheless, pressures on the rupiah reappeared as global financial market uncertainty soared, which triggered broad USD appreciation. Broad USD appreciation precipitated depreciation amongst nearly all currencies. On 18 th July 18, the rupiah was recorded at a level of Rp1,5 per USD, depreciating.5 (ptp) on the level at the end of June 18 (Graph.7). Nevertheless, rupiah depreciation (ptp) 1,3 1,58 13,95 13,76 13,63 13,895 13,89 13,576 IDR/USD Monthly Average 13,378 Quarterly Average Source: Reuters, calculated; Data as of 18 July 18 Graph.7 Rupiah Exchange Rate Movements IDR/USD 1,373 1, 1, 1, 13,8 13,6 13, 13, 18 Monetary Policy Review July 18 Bank Indonesia

21 was not as severe as that experienced in other peer countries, including the Chinese yuan (1.9), South Korean won (1.56) and Japanese yen (1.98) (Graph.8). Compared with the end of December 17, the rupiah had depreciated by 5.81 (ytd) as of 18 th July 18, which compares favourably against the Philippine peso (6.81), Indian rupee (6.9), South African rand (7.15), Brazilian real (13.99) and Turkish lira (.68) (Graph.9). As of 18 th July 18, rupiah volatility had increased in line with the build-up of pressures on the currency. Annually, rupiah volatility exceeded the regional average but was still below the South Korean won (Graph.3). In terms of supply and demand, increasing demand from residents for foreign exchange led to a net demand position. Domestic demand was driven by fuel imports as a result of the rising oil price (Graph.31). On the other hand, non-residents recorded a net supply of foreign exchange in line with the net inflow of non-resident capital to SUN and SBSN instruments. Nonetheless, foreign capital outflow pressures in the stock market persisted in line with the intense pressures felt by US stock indexes. Moving forward, Bank Indonesia will remain vigilant of uncertainty risk in the global financial markets. Bank Indonesia will continue to implement stabilisation measures to maintain the rupiah exchange rate in line with the currency s fundamental value, while preserving market mechanisms and continuing to deepen the financial markets. Such policies will also be backed by dual intervention strategy and monetary operations to maintain adequate liquidity, particularly in the rupiah money market and interbank swap market. INFLATION CPI inflation remained under control in June 18 within the target corridor of 3.5±1. CPI inflation stood at.59 (mtm) in JPY KRW CNY EUR IDR MYR SGD INR PHP ZAR July vs June Source: Reuters, Bloomberg, calculated; Data as of 18 July 18 Graph.8 Regional Exchange Rates Point-to-point Average YTD 18 vs 17 TRY BRL ZAR INR PHP KRW EUR CNY Point-to-point Average MYR Source: Reuters, Bloomberg, calculated; Data as of 18 July 18 Graph.9 Regional Exchange Rates (ytd) 17 9 YTD 18 YTD-18 Average KRW IDR INR MYR THB PHP SGD Source: Reuters, Bloomberg, calculated; Data as of 18 July USD Billion Graph.3 Exchange Rate Volatility Net S(+)/D(-) Non-restident Net S(+)/D(-) Resident Net S(+)/D(-) Total IDR/USD (rhs) Source: Bank Indonesia, calculated; Data as of 18 July 18 IDR/USD Graph.31 Net Supply/ Demand of Foreign Exchange in the Spot Market 1,5 1,3 1, 13,9 13,7 13,5 13,3 13, 1,9 1,7 1,5 Bank Indonesia Monetary Policy Review July 18 19

22 June 18, up from.1 (mtm) the month earlier. Rising seasonal demand due to Eid-ul- Fitr pushed headline inflation upwards but the rate remained below the historical Eid average during the past four years at.81 (mtm). On a monthly basis, all components edged up CPI inflation in line with seasonal trends. Consequently, CPI inflation has reached 1.9 (ytd) or 3.1 (yoy), down from 3.3 (yoy) the month earlier (Graph.3). Stable core inflation was maintained which also helped to control headline inflation. Core inflation stood at. (mtm) in the reporting period, up from.1 (mtm) in the previous period but below the average rate recorded during Eid-ul-Fitr for the past for years at.37 (mtm) (Graph.33). Non-traded inflation contributed to higher core inflation, contrasting the decline of traded inflation. On a monthly basis, non-traded core inflation stemmed from food, particularly rice with a side dish as demand spiked during Eidul-Fitr, as well as non-foods in the form of rising house rental prices. On the other hand, monthly traded core inflation declined on external developments, including gold prices. Annually, however, core inflation was recorded at.7 (yoy), down from.75 (yoy) the month earlier (Graph.3). Core inflation was kept under control in June 18 due to policy consistency from Bank Indonesia in terms of forming and anchoring rational inflation expectations, including by maintaining rupiah exchange rates in line with the currency s fundamental value (Graph.3). Volatile foods (VF) experienced inflation in June 18 but at a rate below the historical average for the Eid-ul-Fitr period. VF inflation stood at.9 (mtm) in the reporting period, increasing from.19 (mtm) the month earlier (Graph.35). The bump was caused by Eid-ul-Fitr celebrations but the rate remained lower than the historical average during the Eid period for the past four years at 1.5 (mtm). The main drivers of yoy CPI Core Volatile Food Administered Prices Source: BPS, calculated Graph.3 Inflation.88 Core Core Traded Core Non-traded Graph.33 Traded vs Non-Traded Core Inflation Source: BPS, calculated Macroeconomic Indicators Forecasting Survey (SPIME) Consensus Forecast I II III IV I II III IV I II III IV Source: Bank Indonesia and Consensus Forecast Graph.3 Consensus Forecast and Macroeconomic Indicator Forecasting Survey mtm yoy Monetary Policy Review July 18 Bank Indonesia

23 inflation were purebred chicken meat, bird s eye chilli, fresh fish, vegetables, coconuts, shallots, beef, live chickens and free-range chicken meat (Table.). The prices of various meats experienced inflation, along with bird s eye chilli, due to limited supply as demand spiked during Eid-ul-Fitr. Meanwhile, purebred chicken eggs, red chilli, rice and garlic experienced deflation, supported by stable supply. Annually, VF inflation was recorded at.6 (yoy), increasing from.33 (yoy) the month earlier. Inflationary pressures on volatile foods have escalated since the beginning of the year due to the limited supply of various major commodities, coupled with the upward trend of global volatile food prices. Volatile food (mtm) - skala kanan Volatile food (yoy) Source: BPS, calculated Graph.35 Volatile Food Inflation Administered prices (AP) also recorded inflation on rising transportation fares. AP inflation reached 1.38 (mtm) in June 18, up from.7 (mtm) the month earlier (Graph.36). On a monthly basis, AP inflation recorded a rate below the -year historical average for Eid-ul-Fitr, primarily due to lower inflation of intercity transportation. Inflationary pressures on administered prices (AP) stemmed from airfares and intercity fares as demand spiked during the annual exodus of travellers returning home to celebrate Eid-ul-Fitr with family (Table.3). Annually, administered prices (AP) recorded inflation of.88 (yoy), down from 3.61 (yoy) the month earlier. Spatially, inflation was controlled in all regions of the Indonesian archipelago. The highest inflation was recorded in Eastern Indonesia at.98 (mtm), followed by Sumatra at.58 (mtm) and Java at.8 (mtm). Regional inflation in Eastern Indonesia and Sumatra was attributed to supply-side constraints affecting several major commodities, combined with high transportation fares prior to normalising after Eid-ul-Fitr. On the other hand, inflation in Java was driven by lower production volume in several provinces due to fewer working days. Compared with dynamics in the previous period, June inflation Table. Contributors to Volatile Food Inflation/Deflation Commodity Chicken Meat Bird s Eye Chili Tilapia Fish Petai Beef Meat Live Chicken Coconut Mackarel Tuna Wet Shrimp Long beans Squid Shallot Milkfish Decapterus Fish Purebred Chicken Meat Mackerel Tomato Fruit Tomato Chicken Egg Red Chili Rice Garlic Source: BPS, calculated Inflation/Deflation ( mtm) Contribution () Bank Indonesia Monetary Policy Review July 18 1

24 was observed to increase in all regions except Maluku and Gorontalo, where lower inflation was reported. Consequently, the annual inflation realisation in various regions remained within the national target corridor of 3.5±1. The lowest inflation was recorded in Eastern Indonesia (3.1 (yoy), followed by Java (3., yoy) and Sumatra (3.38, yoy) (Figure.1). FINANCIAL MARKETS There are early indications of effective monetary policy transmission through the interest rate channel. Accordingly, the O/N interbank rate has begun to rise and the direction of deposit rates has reversed in response to the recent BI 7-Day (Reverse) Repo Rate hikes. The O/N interbank has increased but remains under control due to adequate liquidity in the banking system to meet the growing near-term requirement. Broad money (M) growth moderated in the reporting period as a result of slower NFA growth. The bank intermediation function is improving in line with faster growth of outstanding loans Source: BPS, calculated Administered Prices ( mtm) Administered Prices ( yoy) Graph.36 Administered Prices Inflation Table.3 Contributors to Administered Prices Inflation/Deflation Commodity Air Transport Fares Inter-City Transport Fares Clover Filter Cigarettes Train Fares Clover Cigarettes Source: BPS, calculated Inflation/Deflation Contribution ( mtm) () SUMATRA KALIMANTAN SULAWESI Aceh 3.9 Kepri.1 Kalbar Sumut 3. Bengkulu 3.8 Kalsel Riau 3.3 Kep.Babel.5 Kaltim Sumbar 3. Sumsel.9 Kalteng Mar Apr May June Lampung.8 Jambi. 17 Mar Apr May June Kaltara Mar Apr May June Gorontalo 1.9 Sulut 3.5 Sulteng 3.6 Sulbar.7 Sulsel.1 Sultra 1.8 NATIONAL INFLATION JUNE (yoy) Inf 3.. Inf < Inf <. Inf < 1. Inf < JAVA Mar Apr May June Banten 3. Jakarta 3.3 West Java 3.1 Central Java.7 East Java Java.7 Yogyakarta.7 BALINUSRA Mar Apr May June Bali 3.5 NTB 3. NTT.9 MAPUA Mar Apr May June Maluku -.11 North Maluku 3.9 Papua.1 West Papua 3. Source : BPS, calculated Figure.1 Regional In flation, June 18 (, yoy) Monetary Policy Review July 18 Bank Indonesia

25 disbursed by the banking industry, while the credit risks have been contained. Meanwhile, economic financing through the financial markets, including IPOs and rights issues, corporate bonds, medium-term notes (MTN) and Negotiable Certificates of Deposit (NCD), continue to track an upward trend. Interest Rate Transmission The O/N interbank rate increased in June 18 but was kept under control despite high demand for liquidity and the policy rate hike. In response to the BI 7-Day (Reverse) Repo Rate increases in May and June 18 as well as growing demand for liquidity, the average daily O/N interbank rate was recorded at.5 in June 18, up from. the month earlier (Graph.37). Meanwhile, the spread between the DF rate and the O/N interbank rate increased just slightly by bps to 1bps in June 18, demonstrating that bank demand for liquidity was effectively met despite tighter liquidity, primarily to meet short-term demand in the face of increasing cash withdrawals during the extended Eid-ul- Fitr holiday this year. O/N interbank rate volatility increased on the back of policy rate adjustments and growing demand for liquidity. Higher volatility was evidenced by the wider average daily min-max spread of the O/N interbank rate, increasing from 37bps to 6bps in June 18. The BI 7-Day (Reverse) Repo Rate hike prompted repricing, thereby creating broader O/N interbank rate divergence. Volatility peaked when demand for rupiah liquidity was highest, namely at the start of the -day Eid holiday in June. Nevertheless, high demand for rupiah liquidity was supported by the high volume of interbank money market transactions, with the daily average reaching Rp17.8 trillion in June 18 (Graph.38) Source: Bank Indonesia O/N Interbank Rate BI 7DRR Rate DF Rate LF Rate BI Rate Graph.37 BI 7-Day (Reverse) Repo Rate and O/N Interbank Interest Rate Trillion Rp Interbank Transaction Volume (rhs) O/N Interbank Transaction Volume (rhs) O/N Interbank Rate Source: Bank Indonesia Graph.38 O/N Interbank Interest Rate and Transaction Volume Bank Indonesia Monetary Policy Review July 18 3