Beating our expectations as well as that of the market, the country’s February Consumer Price Index (CPI) showed further deflation of 0.36% m-m (January: -0.24%), the lowest level in 15 years. February data also showed y-t-d CPI deflation at 0.61%. We note that the last time deflation was recorded for two consecutive months was in March-April 2011.

With the support of regular fuel price cuts in January, price levels of transportation and staple foods trended down. Additionally, on a y-y basis, February CPI decelerated to 6.29% (January: 6.96%). Also, February core inflation slowed slightly to 4.96% y-y (January: 4.99%) - lower than our estimates and market expectations - despite the negative impact from an electricity tariff adjustment and a price hike for non-subsidized 12kg-LPG.

Inflation Breakdown (m-m %)

Source: Statistics Indonesia, Bahana

Contrary to disinflationary data for January-February showing a 0.6% y-t-d deflation, we expect March CPI to move back into inflation territory. There are two major factors underlining our expectation.

First would be higher administered prices. The Ministry of Energy and Mineral Resources (ESDM) has raised regular fuel price to 6,900 IDR/litre in Java, Madura and Bali, while the fuel price outside of these areas also inched up to 6,800 IDR/litre, resulting in a 150 IDR/litre price hike on average, up 2.2%. Separately, Pertamina (the state-owned oil company) has also hiked prices of non-subsidized 12kg-LPG to 134,000 IDR/canister, an increase of 3.8%.

Secondly, higher CPI will stem from the surge in rice prices as a result of a potential delay to the harvest season. At this stage, we believe that there could be a 0.15% inflation in March based on our sensitivity analysis. However, we expect the 1H15 inflation to remain manageable, at 6.5% - 7.6% y-y.            

Despite the deflationary trend, and expected further surplus in trade balance, we believe that the central bank at its next policy rate meeting on 17th March will maintain its benchmark rate at 7.50%.

In our view, the central bank is likely to remain cautious leading up to the Fed’s monetary policy decision in April, the outcome of which may result in the continued and undesirable weakness of the IDR, which could break the 13,000/USD level.

At this stage, we are concerned for companies (particularly SMEs) with the need for USD raw material imports and foreign debt servicing requirements. Note that Indonesia’s 11M14 external private debt of 160.5 billion USD, up 15% y-y, has not only exceeded the government’s external debt of 134 billion USD but also comprised of sizeable short-term loans amounting to 50 billion USD or more than 31% of total private offshore borrowings.