Credis Suisse ECONOMICS: Raising 2010F-11F GDP, Inflation - Policy rate forecasts

Robert has raised Indonesia Economics forecasts to 6.0%-5.8% GDP Growth, 7.5%-7.0% year-end CPI, and 6.75%-7.50% year-end Overnight SBI rate for 2010F-2011F respectively.

· Robert Prior-Wandesforde ( Indonesia Section of 4Q Emerging Markets Quarterly Report attached): Inflation has picked up. Having hit a multi-year low of 2.4% in November last year, the headline rate of consumer price inflation rose to 6.4% in August. With the exception of India , this was the highest rate in Asia, although it was still below Indonesia ’s 6.9% average inflation rate of the last ten years. The bulk of the pick-up reflected resurgent food price inflation, which rose 10 percentage points in the eight months to end-August, thanks largely to unfavourable weather conditions, while the core rate only crept up to 4.2% in August from a low of 3.6% in March. Although core inflation does not represent a huge concern right now, we expect it to continue moving higher, reaching 6%-7% by early next year. Two factors are important here. First, the prospect of higher food price inflation leaking through into core elements of the CPI. Second, the pick-up in economic growth, which is likely to prompt companies to expand their profit margins.
· Bank Indonesia ’s (BI) reaction. The central bank has so far responded to the rise in price pressures by squeezing liquidity – raising the Statutory Reserve Requirement (SRR) by a sizeable three percentage points from 7.5% to 10.5%, with effect from 1 November. We expect things to be different by the end of this year, however, and we retain our forecast of one 25bps rise in 2010, followed by a total of 75bps in 2011. At its September meeting, Bank Indonesia also indicated that from 1 March 2011 it would link moves in the SRR to the banking sector’s Loan-Deposit Ratio (LDR), stating that the “ideal” LDR was 78%-100%.
· What about growth? At 6.2% in the second quarter, Indonesian GDP growth was the highest it has been since the third quarter of 2008, when the downturn began, and compares with an average GDP growth rate of 5.1% since 2000. Nevertheless, it is perhaps a little disappointing that the economy has not strengthened more than this, not least for a president hoping to achieve average GDP growth of 6.6% over the remaining four years of his term.
· A public sector boost to growth? According to its draft budget for 2011, the government is planning to boost infrastructure spending by 28%, which would have short-term as well as longer-term, more dynamic benefits for economic activity.
· The bottom line. Having underperformed the region over the last 12-18 months, we believe Indonesia is likely to see stronger GDP growth than most in 2011, slowing only slightly from the likely pace of 2010. However, the country is a long way from achieving 6.5%-7% growth on a sustained basis. The domestic private sector is in a good position to invest and the country is attracting more interest from abroad, but the speed of reform is slow and, in any case, it takes many years for structural change to have an impact on an economy’s trend rate of growth. It is crucial that Bank Indonesia does not take risks with inflation as this would badly damage sentiment, in our view, delaying the country’s likely move to investment grade status.