Indonesia central bank seen holding rate, second quarter current account gap likely doubled

JAKARTA Wed Aug 13, 2014 12:30am EDT

Indonesia's presidential candidate Joko ''Jokowi'' Widodo gestures to supporters a day after he was named winner in the presidential election in Taman Proklamasi, Jakarta July 23, 2014.  REUTERS/Darren Whiteside

Indonesia's presidential candidate Joko ''Jokowi'' Widodo gestures to supporters a day after he was named winner in the presidential election in Taman Proklamasi, Jakarta July 23, 2014.

Credit: Reuters/Darren Whiteside

JAKARTA (Reuters) - Bank Indonesia is expected to announce this week that the country's current account deficit in April-June roughly doubled from the first quarter, but the central bank is not seen tightening policy any time soon.

The second-quarter deficit often widens from the first, but this year there is extra concern about the gap as it keeps pressure on the rupiah IDR=ID and reflects economic problems President-elect Joko Widodo will face when his term begins in October.

Bank Indonesia (BI), which last year hiked rates to deal with a big current account deficit, has a monthly policy meeting on Thursday. All 14 economists in a Reuters poll expect the benchmark rate BIPG to be kept at 7.50 percent, and most of them see the rate remaining there at the end of the year.

Between June and November 2013 - when the benchmark rate was last changed - BI raised it 175 basis points to bolster the rupiah, battle inflation and contain the current account deficit, which hit 4.4 percent of gross domestic product in 2013's second quarter.

The deficit was only 2.06 percent of GDP in January-March this year, and early in the year the central bank predicted that the 2014 level could be below 3 percent, an improvement on last year's 3.3 percent.

Early this year, BI said this year's deficit would be 3.3 percent, and on Wednesday, Governor Agus Martowardojo said it would be "around 3 percent".

But in the second quarter, the deficit widened sharply, part due to poor exports. Low commodity prices and a ban on mineral-ore exports contributed to a trade deficit of $2.21 billion compared with a $1.07 billion surplus in April-June 2013.

The median forecast in a Reuters poll was for a second quarter deficit of 4.00 percent of GDP - the same level BI recently projected.

Gundy Cahyadi, an economist with DBS in Singapore, said BI will remain vigilant in making policy, as the current account deficit remains large and "is still some distance away from being at a more sustainable level."

One problem facing Widodo - and sustaining a trade deficit - is that Indonesia needs costly imports of oil, and budget subsides that keep down domestic fuel prices need to be cut again, as they were in June 2013.

ACTION ON SUBSIDIES?

If domestic fuel prices could be raised again, that would reduce the government's budget deficit and should reduce oil demand and imports.

Mirza Adityaswara, BI's senior deputy governor, said recently it is the job of the "non-monetary sector" to tackle the current account because the oil sector accounts for two-thirds of the deficit.

    Coordinating Economic Minister Chairul Tanjung said last week options being considered include having the current government cut fuel subsidies before its term ends in Ooctober.

But the subsidy problem could be left for Widodo's administration to deal with. Cutting fuel subsidies is politically unpopular, hurting poor Indonesians, and fuel hikes traditionally cause a spike in inflation.

This year, inflation has slowed significantly and the annual pace economic growth - at 5.12 percent in the second quarter - was the lowest since late 2009.

However, consumption has remained strong, which is one reason economists expect monetary policy to remain tight. Two analysts in the latest poll saw BI raising the policy rate by 25 basis points by year-end.

More than just monetary policy is needed to deal with Indonesia's external imbalances, economists at Bank Danamon said in a recent research note, adding that authorities need to deal with infrastructure problems and productivity as well as build up manufacturing to cut reliance on commodity exports.

"Fuel subsidies needs to be eliminated to provide fiscal space to support these structural policies," they said.

(Editing by Richard Borsuk)

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