Only strong decisive action will save rupiah

Bank Indonesia (BI) must take bold measures to halt the decline in the rupiah and regain investor confidence in the economy.

Analysts are hoping that the central bank's decision to increase the deposit rate might only be the beginning of a series of monetary tightening measures.

BI increased its overnight deposit facility rate (Fasbi) - the interest rate paid to local lenders for short-term deposits at the central bank - by 25 basis points to 4.25 percent from Wednesday, having kept it unchanged since August last year.

"The rise is a preemptive measure from Bank Indonesia to give a signal to the market that we are ready to respond whenever new developments kick in," Governor BI Agus Martowardojo told reporters in Jakarta on Wednesday.

Agus explained that BI increased the Fasbi rate to absorb excess liquidity in the market. Less liquidity would eventually lead to more anchored inflation expectations and firmer support for the rupiah.

Agus only took up his position a few weeks ago and today will be the first time he has taken the chair at BI's monthly board of governors meeting.

This meeting is thought to be crucial as the recent capital outflow has put great pressure on the rupiah.

"Further turbulence cannot be ruled out," Citi Research economist Helmi Arman wrote in a research note on Wednesday.

"We think the tightening is long overdue to curb domestic demand in the face of the underperformance of exports."

The recent rise in the Fasbi signaled tighter monetary policy down the road, Helmi noted, predicting another 50 basis points increase in Fasbi sometime in the next two months.

The further accretion of the rate which the central bank had kept steady for 15 consecutive months will materialize only after the fuel price increase, he added.

That the central bank is leaning toward tightening was acknowledged recently by BI Deputy Governor Perry Warjiyo.

Monetary tightening will focus on macroprudential policies, market intervention and interest rate adjustments, he added.

The rupiah weakened today a further 0.3 percent to touch 9,856, according to the Jakarta Interbank Spot Dollar Rate (JISDOR).

Bloomberg data show that the rupiah went as low as 10,087 this week, as foreign investors dumped Indonesian assets traded in the Jakarta Composite Index (JCI), which recently hit a three-month low.

The JCI rebounded on Wednesday after dropping for eight consecutive trading days.

The benchmark index rose 1.9 percent to close at 4,697.88. The index had lost nearly 10 percent of the medium-term peak on May 20.

"Many local institutional investors came into the market today to benefit from the low prices."

"In the first session, the sell-off continued before local investors like pension funds and asset managers came in and bought. Foreign investors followed suit after realizing the drop was irrational," MNC head of research Edwin Sebayang said.

Nowadays, steep depreciation of the rupiah always prompts concerns among business stakeholders.

"The stability of the local currency is necessary for business certainty. Only a stable and rational market can allow us to plan our business well," Indonesian Employers Association (Apindo) deputy chairman Anton Supit told The Jakarta Post.

Anton said that the top priority for the government should be to avert a further slide in the rupiah and return it to what he considers to be a "conducive" level for business , around 9,500.

Market concerns

External Federal Reserve could cut back on its bond buying in the coming months amid encouraging housing and employment data Signs of weakness in the recovery of China's economy following a fall in the country's manufacturing index

Domestic The government's plan to increase prices of subsidized fuel may cause higher inflation, which could in turn affect the growth target. The sharp fall of the rupiah may indicate a loss of foreign investors' confidence in the Indonesian economy