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Cablegate: Bank Indonesia Raises Rates, As Inflation

VZCZCXRO1377
RR RUEHCHI RUEHCN RUEHDT RUEHHM
DE RUEHJA #1307/01 1892253
ZNR UUUUU ZZH
R 072253Z JUL 08
FM AMEMBASSY JAKARTA
TO RUEATRS/DEPT OF TREASURY WASHDC
RUEHC/SECSTATE WASHDC 9467
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUEHBJ/AMEMBASSY BEIJING 5188
RUEHBY/AMEMBASSY CANBERRA 2723
RUEHUL/AMEMBASSY SEOUL 4714
RUEHKO/AMEMBASSY TOKYO 2182
RUEHRC/DEPT OF AGRICULTURE USD FAS WASHINGTON DC
RUEAIIA/CIA WASHDC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC

UNCLAS SECTION 01 OF 02 JAKARTA 001307

SENSITIVE
SIPDIS

DEPT FOR EAP/MTS AND EB/IFD/OMA
TREASURY FOR IA - MALACHY NUGENT
COMMERCE FOR 4430/KELLY
DEPARTMENT PASS FEDERAL RESERVE SAN FRANCISCO FOR CURRAN
DEPARTMENT PASS EXIM BANK
SINGAPORE FOR SBAKER
TOKYO FOR MGREWE
USDA/FAS/OA YOST, MILLER, JACKSON
USDA/FAS/OCRA CRIKER, HIGGISTON, RADLER
USDA/FAS/OGA CHAUDRY, DWYER
USTR WEISEL, EHLERS

E.O. 12958: N/A
TAGS: EFIN EINV ECON EAGR ID
SUBJECT: BANK INDONESIA RAISES RATES, AS INFLATION
ACCELERATES

REF: A) JAKARTA 1082 B) JAKARTA 1033 C) JAKARTA 1007

1. (SBU) SUMMARY. The Indonesian Central Bank, Bank
Indonesia (BI), raised policy interest rates by 25 basis
points to 8.75% on July 3, in line with market
expectations. Indonesia's headline consumer price
inflation rate rose 2.46% in June, driven by continuing
rising food prices and higher transport prices due
to the May 24 fuel hike. The 11.03% y-o-y inflation
figure released in June cannot be properly compared
to the 10.4% inflation rate registered in May due
to significant methodology changes beginning with
the June inflation data, particularly the use of a
new base year and changed product weightings. Y-o-y
inflation would have registered over 12% without the
methodological changes, according to analysts. The
Indonesian Statistics Agency did not report a core
inflation rate for June. END SUMMARY.

Higher Transport and Food Costs Drive Inflation
--------------------------------------------- --

2. (U) Transportation, communications and financial
services rose 8.72% m-o-m in June, led by a 12.98% hike
in transportation costs following the May 24 fuel hikes
(Ref B). Gasoline price increases alone contributed more
than a third of the 2.46% m-o-m rise in inflation (0.83%).
Food prices also continued rising, with unprocessed food
prices up 1.28% m-o-m (driven by a 2.11% rise in the
prices of rice, grains and tubers) and processed food,
drink, cigarettes and tobacco up 1.33%. It is difficult
to gauge the impact of higher fuel and food prices on
other products because the Statistics Agency did not
release a core inflation rate for June. However, prices
were up significantly in each of the seven main
expenditure categories, while only a few items
registered price declines.

Inflation Would Have Been Higher But For
Methodology Changes
-----------------------------------------

3. (U) The June data inflation reflected use of a new
base year (2007 vs. 2002), and the use of a new, larger
consumer basket of products (774 products, up from 744),
based on a 2007 Cost of Living Survey. The new basket,
which reflects changes in buying patterns, reduces the
weighting of food (unprocessed and processed) to 36.12%,
down from 43.38%, and increases the weighting of
transportation to 19.1%, up from 14.47%. Another change
included a larger survey area covering 66 cities, up
from the 45 cities previously covered. The 11.03% y-o-y
headline inflation rate reported in June would have been
significantly higher (well over 12%, according to
analysts) absent these methodology changes.

Accelerating Inflation Prompts BI to Raise Rates
--------------------------------------------- ---

4. (U) June's accelerating inflation rate was widely
expected and prompted BI to continue its recent monetary
tightening. On July 3, BI raised policy interest
rates by 25 basis points to 8.75%, its third consecutive
rate hike.

5. (U) In remarks following the BI Board of Governors'
meeting, BI Governor Boediono said the major source of
inflationary pressure in 2008 is the impact of the fuel
price hike and soaring food prices. He stated BI also
saw mounting demand side pressure in line with the rapid

JAKARTA 00001307 002 OF 002


expansion in credit and the money supply through the
second quarter of 2008. Pointing to indications of
increasing inflation expectations, Boediono said BI
considered it necessary to hike the BI rate to prevent
further impact of fuel and food price increases to
prices of other goods. He stressed that BI will stay
the course with flexible, measured use of existing policy
instruments to curb inflation in 2009 within the 6.5% to
7.5% range, and will coordinate actions very closely
with the GOI. Boediono also predicted Indonesia's
economic growth will remain strong in 2008 and until
the end of the 2009 national elections, buoyed by
high levels of private consumption and Government
expenditure and adequate export performance.

6. (U) A BI press release issued after the July 3
meeting noted BI will continue to closely monitor the
condition of the economy, which is still marked by
various uncertainties. It also noted BI expects 2008
inflation will reach 11.5%-12.5%. The BI expects
Indonesia's balance of payments will continue showing
good performance and have a positive impact on the
stability of the exchange rate, according to the
release. It reported international reserves at
end-June were $59.5 billion, equivalent to over
five months' of imports and servicing of official
foreign debt. The statement said the overall
condition of the banking industry reflected strong
performance and resilience. The release concluded
that the BI rate policy will be supported by
optimization of Open Market Operations and
policies for bolstering exchange rate stability.

7. (SBU) Analysts had expected both the acceleration
in inflation in June and the July 3 BI rate hike.
Going forward, most analysts expect BI to continue
monetary tightening, as it attempts to anchor
inflationary expectations and limit second round
effects from higher food and fuel prices. Forecasts
of end-2008 BI policy rate have been creeping up
and now range from 9% to 10%. A number of analysts
view BI's recent tightening moves as too little too
late to avoid second round effects from emerging.
With the real policy interest rate remaining 225 bps
below the headline inflation rate, some of these
same analysts predict BI will be forced to continue
to tighten in 2009, despite upcoming elections.

Continued Rising Oil Prices Increase Pressure
on the Budget
---------------------------------------------

8. (SBU) The continued rise in world oil prices has
also limited the budgetary relief realized from the
GOI's May 24 reduction in fuel subsidies. In remarks
reported in the press July 3, President Yudhoyono
said the GOI may have to spend 205 trillion rupiah
(USD 22.2 billion) on fuel subsidies and 80 trillion
rupiah (USD 8.66 billion) on electricity subsidies
in 2008 if oil averages $145 per barrel IN 2008.

HUME

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