Indonesia Rating Upgrade Highlights Positive Backdrop For Currency
By Win Thin
S&P upgraded Indonesia’s rating by one notch to BB+, just one notch shy of investment grade. The move puts it on par with the other two agencies, and we think investment grade will be given by at least one of the big three agencies this year. Indeed, the agencies are really behind the curve as our own sovereign ratings model has Indonesia at BBB+/Baa1/BBB+ compared to actual ratings of BB+/Ba1/BB+. Last year, Japan Credit Rating Agency raised Indonesia’s foreign currency debt rating to investment grade BBB-. While JCRA moves usually don’t garner much attention, we think it was important given rising Japan investor interest in Indonesia.
Indonesia central bank meets April 12, and market is expecting no move. It stood pat in March too after hiking rates by 25 bp to 6.75% in February. With inflation still high and rising, we think it is risky for BI to wait too long before hiking again. Headline CPI inflation eased to 6.7% y/y in March from 6.8% y/y in February, but core inflation picked up to 4.5% y/y from 4.4% y/y in February and is making new cycle highs. The strong rupiah is likely having a beneficial impact on price pressures, and may be the deciding factor in keeping rates steady in April. However, orthodox tightening is still going to be needed this year. Bloomberg consensus is for only 50 bp more tightening in 2001, but we think it will be more. With GDP rising 6.9% y/y in Q4 and over 6% in all of 2010, we think the output gap has closed and price pressures could quickly accelerate. Recall that Indonesia never went into recession during the financial crisis, which means it has much less excess capacity to fall back on.
USD/IDR is making new lows for the cycle, and is trading near the 2007 low around 8650. After that is some congestion around 8500 and then the 2004 low around 8300 and the 2003 low around 8095. Note that foreign equity outflows seen in Q1 have reversed, with a $1.8 bln inflow seen in April so far that have moved the YTD number back into positive territory. Despite recent IDR strength, Indonesian officials have remained quiet and marks a turn from 2010, when jawboning and mild measures were seen as a response to currency strength. Indeed, BI Governor Nasution seemed to give his blessing to more gains this week, saying it may continue appreciating. However, he did warn that the bank is monitoring the speed of the gains. IDR remains one of our favored picks in EM, backed by high yields and good fundamentals. IDR is the top performer (tied with KRW) in Asia YTD vs. USD.