Tighter Liquidity for Rupiah Stability

Liquidity continued to stiffen in 2013.

The growth of money supply, measured by the M1 and M2, continues to ease to 12.8% yoy and 13.2% yoy, respectively, in Jan13.  They have been in a sliding trend since June last year. As a consequence, interbank overnight rate increased from 3.9% in Jun12 to 4.19% in Jan13 whereas credit growth eased from 26% yoy in Jun12 to 23% yoy in end 2012 (see exhibit 1).

Does it have something to do with the central bank? We believe the answer is yes as we think part of the liquidity has been absorbed through BI’s Open Market Operation (OMO) which is the sum of term deposit, SBI, and reverse repo instruments. Specifically, the outstanding of BI’s OMO level started to gradually pick up during the same time when money supply growth started to slow; it increased from Rp238tn in Jun12 to Rp372tn in Jan13 (see exhibit 2).

Tighter liquidity is necessary for a more stable Rupiah. As we have mentioned on our previous report (please read our weekly report 13 February 2013), in addition to BI’s aggressive intervention early this year, we believe liquidity tightening stance is part of the effort to stabilize the rupiah and to prevent the currency from weakening beyond Rp9,800/US$ which we see as the upper limit level of BI’s tolerance.

What’s the condition going forward? Recently the outstanding level of BI’s OMO instruments has declined since January until mid February. Nevertheless, this trend does not change our view of BI’s tightening- liquidity bias in order to support the rupiah as the current decrease in OMO outstanding level is mostly cyclical. We believe that following the end of this cyclical period OMO outstanding size will pick up again.

Does it take FASBI hike scenario out of the table? We think no, as it is too early to conclude a stable exchange rate ahead amid uncertain global environment while the country is still running on current- account deficit. We still think BI will step up its support for the rupiah by increasing FASBI rate by at least 25 bps this year. We maintain our view that the rupiah will hover around Rp9,700/US$-Rp9,900/US$ in 1H13, before appreciating to around Rp9,600/US$ in YE13.