Journal Issue

Statement by Aida Budiman, Alternate Executive Director for Indonesia and Iss Savitri Hafid, Advisor, September 7, 2012

International Monetary Fund
Published Date:
September 2012
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  • The Indonesian authorities would like to thank the IMF team for the fruitful dialogue during the Article IV consultation. The consultation, which focused on policy to address near term challenge and to secure sustainable and equitable growth over the longer term, was constructive and timely. The authorities find the staff report comprehensive and they broadly agree on most of the major policy thrusts. As such, this statement will provide more background of policy making for emphasis and clarification.

Recent Economic Development and Outlook:

  • Amid the uncertainty in the global economy, Indonesian economy’s resilience was well maintained, charting higher than expected growth of 6.5% in 2011. The economic performance was achieved with better than expected inflation rate –recording 3.8%, lower than the outlook envisaged in last year consultation-, strong external position, prudent fiscal deficit, and sound financial stability.

  • Moving forward, the economic growth in 2012 is expected to remain strong at 6.1% – 6.5% although with risk tilted to the downside. Despite weak of global demand and slowdown of regional economy, economic growth will be sustained owing to solid investment and domestic consumption. Meanwhile, fiscal stance will continue to provide stimulus and is set to record deficit by 2.2% of GDP, with emphasis on expanding budget absorption for investment. This will be followed with well maintained public debt and external debt levels. Inflation, despite having strong domestic demand and potential pressure on some components of volatile food, remains benign and is expected to reach the mid-point of the target of 4.5% + 1. In terms of financial stability, various indicators have also continued to show strong resilience of this sector despite the solid credit growth which reached around 26%. Current account remains sound and will be moving along its medium-term norm, predicted to record deficit of some 2% of GDP in 2012, which would be mostly financed by FDI flows. International reserve in July 2012 stood at $106.6 billion and is adequate to cover 5.6 months of imports and government’s external debt services payments.

  • While the authorities manage to maintain the economic performance, it encounters increasing challenges in their effort to safeguard macro economy and financial stability, as well as to attain sustainable and inclusive economic growth. The challenges emerge from global and domestic economy. From global sphere, with unfolding global economic and financial crisis, Indonesia is facing uncertainty and risks relating to the strength of global economic recovery and its impact to regional economy, the fluctuation of commodity prices, and the volatile capital flows. From domestic side, challenges come from the continuing excess liquidity in the financial sector, the need to improve government spending quality and execution rate, as well as the urgency to expedite the structural reforms remain important policy agenda. Subsequently, the authorities see the focus of the staff report as appropriate.

Monetary Policy

  • To achieve and maintain price stability in securing the macroeconomic and financial condition is always the core mandate of monetary policy in Indonesia. Following the adoption of inflation targeting framework in 2005, Bank Indonesia (BI) has continuously made important and bold steps to strengthen the effectiveness of its monetary policy. This is to meet the increasing complex challenges to monetary policy making decision to secure the inflation targets in supporting macroeconomic and financial system stability, arising from both global and domestic conditions. The task is not easy because, as rightly pointed out by Staff, the inflation in Indonesia is also influenced by supply shock. The first Selected Issue Paper (SIP) concluded that 40 percent of inflation dynamic in Indonesia is attributable to domestic supply condition. Naturally this condition is well explained due to the geographical condition of Indonesia –an archipelago country—and other imperfection in market structure, including the supply limitation of goods.

  • Notwithstanding the current challenges, BI has initiated a re-evaluation of its monetary policy framework and made some fine tuning for its monetary policy operation. BI strives to optimize all monetary transmission mechanism, and not merely relies on interest rate response. Based on this framework, since mid of 2010 BI has adopted a policy mix of monetary and macroprudential policies, which consist of five areas, namely the interest rate response, the exchange rate policy, the capital flow management, the macroprudential policy, and monetary policy communication and coordination. The timing and magnitude of each policy will be determined on the BI’s assessment with regard to the state of economy and macroeconomic outlook within the 2-year framework.

  • The exchange rate policy is an important area in managing the stability in Indonesia. The authorities take note and share that the risk perceptions in Indonesia remain high –although decelerating – compared to the strong economic performance and peer group. Nonetheless, they view that this is attributable to the domination of portfolio flows in the economy especially before 2011. Combined with foreign players domination amid the shallow and segmented financial markets, the capital flows vulnerability has caused volatility of rupiah exchange rate which in turns harming the confident level in the financial market, and hence the real sector. To tackle the risks, the exchange rate policy is geared toward maintaining its stability and consistent with overall macroeconomic outlook so as it will complement the interest rate response in achieving the price stability. This has been done through various measures including intervening in foreign exchange market, limiting the speculative pressures, introducing USD term deposit, and improving a longer-term source of foreign exchange supply. The authorities have also consistently conveyed their policy message on the exchange rate namely to smooth-out the excessive fluctuation but not to commit on a predetermined level.

  • Along with intervention strategy in the FX market, BI also purchases the government bonds in the secondary market. Thus far, the dual intervention strategy in the FX and bond markets stabilized both the currency and the government bond price from unnecessary overshooting fluctuation. BI’s strategy in the bond market, besides having positive impact in smoothing the government bond market volatility, also buttresses the policy to accumulate stock of government bond to be used as monetary instrument in the open market operations and supports the liquidity management of banking sector. Currently, BI has been quite active in utilizing those bonds as a reverse repo instrument in day-to-day open market operation. The authorities acknowledge the plausibility of market distortion in this strategy and would like to underscore that the implementation has always been conducted with a measured pace both in term of magnitude and timing. BI also continues to strengthen its market surveillance to carefully weigh the impact this dual intervention strategy such that could mitigate the unintended consequences from this operation.

  • The continued excess liquidity condition has further weakened the interest rate channel in monetary policy transmission mechanism in Indonesia. To address the excess liquidity phenomenon and to strengthen monetary policy operation associating with the endeavor to stimulate the interbank transactions, BI has widened its operational corridor from 200bps around the policy rate to a non-symmetric corridor (-200bps and +100bps from the policy rate). This policy would address the continuing build-up of excess liquidity condition in the financial sector –due to the securities’ issuance—among others through the encouragement to find other asset placements rather than the BI’s securities (SBI). The implementation of this strategy would always take into account (i) the need to secure the inflation target as the main objective of macroeconomic policy, and (ii) the need to ensure sufficient yield of rupiah assets’ holding. As deemed necessary, the operational corridor can be adjusted accordingly, as witnessed during the recent decision of increasing the lower end by 25bps.

  • Thus far, the decision to widen the operational corridor has addressed the liquidity management in money market without triggering unnecessary pressure on inflation and hindering the capital inflows to the economy. The declining trend of money market rate is justifiable due to the excess liquidity condition in banking sector. Meanwhile, contrary to Staff assessment, the inflation dynamic has progressed as expected. Based on July 2012 Consensus Forecast, the inflation expectation for 2012 and 2013 have been revised down from 4.8% and 5.5% in June 2012 to 4.6% and 5.2%, respectively. BI’s surveys to consumer and retailer for 3 month and 6 month price expectation have also pointed out to the same direction. The latest estimation of BI models on the inflation forecast for 2012 and 2013 is further confirming that the inflation rate is well within the target. Given the above condition, the authorities have raised inquiry on the conclusion of the first paper of SIP which shows that the lending condition (0.15) is more sensitive compare to the policy rate (0.13). As the numbers are not substantially different, this finding may also be interpreted that the combination of policy rate and widening of operational corridor work as effective as the lending condition to manage the output gap and the inflation target.

  • The authorities note the high credit growth could raise concern on the financial stability as well as the inflation management. Nonetheless, the authorities underscore the importance of maintaining a healthy credit growth to support the much needed investment as staff has rightly pointed out in the report. Indeed a decomposition of the strong credit growth shows a comfortable expansion of credit channeling to productive sectors, in which the highest growth by June 2012 goes to investment and working capital credit reaching 29.1% and 28.2% respectively. Meanwhile the consumption credit which grew by 19.6%, contributed only a third of the total credit growth of some 25.6%. Furthermore, the banking intermediation is backed up by the well above 8% of capital adequacy ratio (CAR) and below 5% of gross non-performing loan (NPL). This trend is expected to enhance capability of the supply side responses to demand in the medium to longer run and prevents the economy from overheating; and is within the framework of financial deepening. That said, BI again conveys its firm commitment to safeguard the financial stability. To maintain a healthy credit growth, BI enhances supervision through adoption of risk based supervision, enhancement of early warning function, and adoption of macro prudential measures such as Loan-to-Value (LTV) ratio for automotive and mortgages credit.

  • The authorities share the importance of communication for enhancing the effectiveness of monetary policy. BI has strengthened its monetary policy communication through a number of measures, including monthly press release and media communication after the board meeting and monetary policy reports (monthly, quarterly and annually) to provide assessment of the state of economy, economic forecast going forward, and BI monetary policy response and direction. Monthly meeting with market player is also conducted not only to share BI’s views on monetary policy but also to gather market inputs. With respect to current policy setting, BI has begun to communicate its ongoing review initiative on monetary policy framework and the intention on its recent refinement of monetary policy operation.

  • The authorities acknowledge that there are rooms to improve and strengthen the effectiveness of monetary policy. This has always been the heart of monetary policy framework and will be carried out continuously. In this regard, they re-iterate the request to have a financial deepening TA from the Fund, which is expected to help constructing an integrated guidance encompassing various sectors in the economy, whilst taking into account the impact on macro and financial stability.


  • The authorities continue to display its firm commitment to fiscal sustainability and strong public finances. On the revenue side, they strive to increase tax base by holding national tax census, as well as to increase purchasing power of the poor people and SMEs by raising taxable income threshold. In addition, the authorities intensify collection through improving tax payable administration including the effectiveness of auditing and investigation function, enhancing VAT record and reporting, and reviewing submission for obedient taxable person for VAT & taxpayers.

  • To accelerate budget absorption spending in 2012 central and regional budget, a team of Evaluation and Monitoring Budget Absorption was established under the auspice of President Work Unit (UKP4). The team monitors and addresses problem that hamper budget execution which mainly lies in the preparation stage. It is expected that the new procurement regulation (adopted end of July 2012) and the streamlined budget preparation and payment process would facilitate better absorption in the future.

  • The revised 2012 budget is expected to play effective countercyclical role in anticipating global crisis to maintain the growth momentum. The parliament has approved the new Budget law which allows the government to request additional budget financing with swift parliament approval to secure the implementation of prioritized programs. The authorities share view on the importance to contain energy subsidy and will conduct this through quarterly electricity price adjustment and limitation in fossil fuel subsidy volume. Further, the revised budget law has provided flexibility by allowing the government right to make price adjustment if the average Indonesian Crude Price (ICP) increase more than 15% from the assumption used in budget.

Financial Sector Policy

  • The authorities sustain its intensive financial sector reform aiming to optimize the financial sector’s contribution to the national economy, in particular by enhancing the intermediation function, bolstering financial sector resilience, strengthening the supervision function, and fostering the financial inclusion. As part of its efforts to enhance bank resilience, BI amended the calculation for risk-weighted assets to increasingly reflect the risks faced by the banks in their CAR and to conform to international standards. In addition, BI sets the loan-to-value level for mortgages and down payments on motor vehicle loans in order to enhance bank prudence when allocating such loans.

  • Transition to coordinate the supervisory function under Financial Service Authority (OJK) is well in progress. Coordination between BI and OJK are directed in the Article 7 and its explanation in OJK Act which set the OJK to be in charge of regulation and supervising institutional issues aspect, soundness aspect (among other liquidity, rent ability, solvability asset quality, CAR, Legal Lending Limit, LDR and loan provision) and prudential aspect. These tasks are considered as regulating and supervising micro prudential of financial institution. BI, instead, will be responsible for macro prudential issues that are those not listed in Article 7. To enforce those regulations, OJK will help BI to conduct moral suasion to the banks. To strengthen those duties, BI has submitted draft of BI Act amendments to the Government. The proposed amendments would give mandates to BI to prescribe and implement the macro prudential regulation. Transition toward OJK will be carried out in a cautious and gradual manner. The authorities appreciate support and technical assistance from the Fund in this matter.

  • The authorities are aware of the FSSN law importance to support the effective management of a systemic crisis. The FSSN Law has been drafted to align with existing laws which regulate OJK, BI and Indonesia Deposit Insurance Corporation (LPS), and has been submitted to the parliament. Separately, the MOU has been established to facilitate coordination among all entities responsible for financial stability and national crisis management protocol (CMP) while waiting for the parliament process for FSSN law. The responsibility of each institution will depend on the nature of the crisis and will follow the national CMP which also consist CMP under each institution.

  • The authorities continue to improve implementation of AML/CFT regime. A number of steps have been taken to prepare a draft bill for legislation by parliament. The bill on Counter Financing Terrorism has been included in the national Legislation Program 2010 – 2014. The draft has been recently updated after engaging with international and bilateral partners and receiving technical assistance to address its main deficiency.

Fostering Stable and Inclusive Growth

  • The authorities are fully aware that rising investment is important for stable and inclusive growth. The authorities have recently announced the 2013 budget and work program with main theme on strengthening domestic economy for to increase and expand prosperity. Under this theme, the government with the Parliament agreed to emphasize on several strategic issues, those are (i) enhancing competitiveness through improving investment and business climate and accelerating infrastructure development and employment creation as outlined in the Master Plan for Economic Expansion and Acceleration (MP3EI 2011 – 2025); (ii) increasing economic resilience through strengthening food security, electrification ratio and energy conversion; and (iii) increasing and expanding people’s prosperity through human resource development and acceleration of poverty alleviation as outlined in Master Plan for Poverty Alleviation (MP3KI 2012 – 2025). Accordingly, budget allocation for capital spending in 2013 will increase by 14.9% from the 2012 allocation and will focus on energy security, food security and domestic interconnectivity.

  • To implement the MP3EI, an-interdepartemental committee has been set up to coordinate the implementation the master plan, monitor and evaluate implementation, and adopt measures to address any obstacle in project implementation. The team has intersectoral unit and cover issue of regulation, connectivity and human resources aspect as well as corridor (development) unit. In addressing issue of connectivity and infrastructure, the authorities continue to promote PPP to mobilize private sector involvement in infrastructure investment. The Indonesia Infrastructure Guarantee Fund which was established to accelerate infrastructure development through PPP, has adopted policies toward better guarantee framework to help encourage pipeline development by making the scheme more acceptable to market. Further, to increase the viability of PPP projects, the authorities are nearing completed of a so-called a Viability Gap Fund that will provide cash to companies to defray the construction costs for PPP projects. The schemes – which will be funded by the remaining over budget (SAL) – aim to make the project with a strong orientation toward public welfare (such as toll roads, village interconnectivity roads and clean-water installations) more commercially viable.

  • The authorities are aware that some trade and investment measures recently announced could have weighed on investor sentiment. However, they also wish to highlight their support for down-streaming of the industries to stimulate more new industries. This goal will be conducted in a cautious manner while preserving external commitment in the international trade.


  • In summary, Indonesian authorities recognize the challenges they face in their effort to ensure higher, sustained and inclusive growth. They will continue to monitor the economic situation closely and stand ready to ensure that macroeconomic and financial stability are well maintained. In that regard, they acknowledge the staff’s advice on such issues, and look forward to a continued fruitful engagement with the Fund.

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