- 2.79% y-y inflation on lower admin and food prices: In line with our expectation (-0.04% m-m, 2.90% y-y) but lower than consensus (+0.02% m-m, 3.02% y-y), the August CPI of -0.02% m-m and 2.79% y-y was led by lower administered prices due to lower transportation costs of -1.02% m-m and -1.9% y-y (July: -1.5% y-y), and food prices of -0.68% m-m and 5.10% y-y (July: 6.8% y-y).
- Continued subdued demand, a stronger IDR and muted global inflation allowed for a continued decrease in core inflation to only 3.3% y-y (July: 3.49% y-y). The current inflation level is already below BI’s inflationary target of 4+1%. By commodity, the highest deflation stemmed from prices of vegetables (-2.87% m-m), meat (-2.07% m-m), fruit (-1.93% m-m) and fresh fish (-0.34% m-m).
- On the transportation side, the lower RON-92 (Pertamax) price in June continued to drag down transportation inflation to -1.49% m-m and -3.3% y-y. The strong IDR and stable oil prices have provided support for unchanged fuel prices this year.
- Lower inflation also on producer side: On the wholesale side, local WPI inflation was lower at 12.9% y-y (July: 13.9% y-y), agriculture at 46.7% y-y (July: 52.7% y-y), manufacturing at 3.87% y-y (July: 4.16% y-y) and mining at -1.35% y-y (July: -0.57% y-y). On an international trade basis, non-oil and gas export prices were also lower at 5.24% y-y (July: 9.19% y-y) while non-oil and gas import prices were at 3.78% y-y (4.10% y-y).
- Higher unemployment in PMI = Low inflation ahead: Indonesia’s August markit PMI is back to expanding again at 50.4 (July: 48.4), with improvement seen for new orders and output (exhibit 9). Surprisingly, new export orders are back to positive growth for the first time in 22 months. On the price side, most producers are offering discounts, although input prices continue to rise, especially for metal, paper, plastic and textiles.
The survey’s annecdotal evidence suggests that manufacturers on the ground are experiencing tougher competition and are hesitant to raise prices. However, amid expanding production sentiment, most respondents are laying off workers as they expect continued overcapacity. These conditions should continue to support low inflation.
Outlook: Inflation forecasts cut to 3.3% in 2016 and 3.8% in 2017
On a year-to-date basis, inflation is at 1.74% (2015: 2.29%) on lower administered prices and subdued domestic demand. Based on these dynamics, we cut our 2016 inflation forecast to 3.3% (previous: 3.9%) and our 2017 forecast to 3.8% (previous: 4.5%). On the financial side, support for low inflation is also shown by subdued M2 growth at 8.1% y-y (June: 8.72% y-y, 5-yr avg.: 13.43%).
BI’s last statement indicated that its focus would be on short-term economic conditions and its response would be based on economic data. This lower-than-desirable range of inflation is a strong message for further monetary easing, in our view.
On the Fed rate, we expect the impact on the Indonesian market to be more limited this time on a higher Indonesia-to-US real yield difference for the 10-yr gov’t bond of 3.7% (exhibit 10) as well as an improved current account balance relative to 2015. Failure to deliver proper monetary easing would not only lower growth and inflation but also result in an overly strong IDR and hot money inflows, in our view.
By Fakhrul Fulvian and Sarah Jessica Hutapea