VZCZCXRO7218
RR RUEHCHI RUEHCN RUEHDT RUEHHM
DE RUEHJA #0901/01 1280909
ZNR UUUUU ZZH
R 070909Z MAY 08
FM AMEMBASSY JAKARTA
TO RUEHC/SECSTATE WASHDC 8930
RUEATRS/DEPT OF TREASURY WASHDC
INFO RUEHZS/ASSOCIATION OF SOUTHEAST ASIAN NATIONS
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEHRC/DEPT OF AGRICULTURE WASHINGTON DC
RUEHKO/AMEMBASSY TOKYO 1933
RUEHBJ/AMEMBASSY BEIJING 5017
RUEHBY/AMEMBASSY CANBERRA 2458
RUEHUL/AMEMBASSY SEOUL 4569
RUEAIIA/CIA WASHDC

UNCLAS SECTION 01 OF 02 JAKARTA 000901 
 
SIPDIS 
SENSITIVE 
 
DEPT FOR EAP/MTS AND EB/IFD/OMA 
TREASURY FOR IA-SETH SEARLS AND JWEEKS 
SINGAPORE FOR SBAKER 
TOKYO FOR MGREWE 
COMMERCE FOR 4430/KELLY 
DEPARTMENT PASS FEDERAL RESERVE SAN FRANCISCO FOR TCURRAN 
DEPARTMENT PASS EXIM BANK 
USDA/FAS/OA YOST, MILLER, JACKSON 
USDA/FAS/OCRA CRIKER, HIGGISTON, RADLER 
USDA/FAS/OGA CHAUDRY, DWYER 
 
E.O. 12598: N/A 
TAGS: EFIN EAGR ECON PGOV ID
SUBJECT: RISING PRICES PROMPT INTEREST RATE INCREASE 
 
REF: Jakarta 871 
 
¶1.  Summary.  On May 6, the Indonesian central bank - Bank Indonesia 
(BI) - increased its reference interest rate by 25 basis points to 
8.25% in response to higher than expected inflation in March and 
April.  BI also signaled that they expect to raise interest rates 
further this year.  While the 25 basis point increase surprised some 
analysts, most macroeconomists in the region felt the rate hike was 
overdue.  The rate hike is also a sign that the Government of 
Indonesia (GOI) plans to implement subsidized fuel price increases 
in the near term.  While a student led protest of planned fuel price 
hikes in Makassar turned violent this week, overall public reaction 
to the planned fuel price hike has been subdued.  End Summary. 
 
 
Bank Indonesia Shifts Policy Stance 
----------------------------------- 
 
¶2.  Acting BI Governor Miranda Goeltom announced that BI raised its 
reference interest (SBI) rate on May 6 by 25 basis point to 8.25% in 
an effort to combat rising price levels.  Core inflation has been 
under significant pressure in recent months due to public 
expectation that fuel prices will rise and high global commodity 
prices, according to BI.  The CPI inflation rate rose to 9.0% 
(y-o-y) in April, after jumping to 8.2% (y-o-y) in March.  Food 
prices, which account for 25% of the CPI basket, rose 15.7% and 
13.6% (y-o-y), in April and March, respectively.  In its 
accompanying policy statement, BI signaled that additional rate 
hikes may be forthcoming.  They noted that challenges to 
macroeconomic stability remain due to rising commodity prices and 
the risk of a global economic slowdown. 
 
Market Reaction Generally Positive 
---------------------------------- 
 
¶3.  Most market analysts had been calling for monetary tightening, 
but few expected BI to move prior to incoming BI Governor Boediono's 
inauguration on May 17.  Analysts had expressed concern in recent 
weeks that the GOI was slow to realize the pace at which rising fuel 
and food prices were impacting inflationary expectations in 
Indonesia.  Analyst statements after the interest rate increase 
expressed relief that BI is taking the inflation threat seriously. 
The market response to the news has been limited, with the 
Indonesian stock index rising slightly on May 7. 
 
Fuel Price Increase Will Exacerbate Inflation 
--------------------------------------------- 
 
¶4.  BI also acknowledged that the rate increase factored in GOI 
plans to increase the price of subsidized fuel by as much as 30% in 
May or June (reftel).  Investors generally view the fuel price 
increase positively, as it indicates the GOI is committed to 
maintaining fiscal discipline.  Public protests of potential fuel 
price hikes have been limited to date, although a student protest in 
Makassar this week turned violent and resulted in six arrests.  The 
GOI plans to implement a direct cash transfer program to 19 million 
poor households to soften the impact of rising fuel prices. 
 
¶5.  If implemented, the fuel price increase could accelerate broader 
price increases this year, as transportation and energy costs for 
many sectors rise.  HSBC and Standard Chartered expect inflation to 
rise to 11 percent this year, if the GOI increases the price of 
subsidized fuel by 25-30% and global commodity prices remain high. 
Most analysts expect BI to respond by raising interest rates by 
100-200 basis points by the end of the year, although political 
pressure to limit the impact of higher interest rates on economic 
growth will be strong in advance of the election.  GDP growth slowed 
in the first quarter due to weaker consumption and investment, 
according to BI. (Note: The Central Statistics Bureau will announce 
the official first quarter GDP growth rate on May 15. End note.) 
Aggressive monetary tightening this year, while likely necessary, 
will slow growth prospects in 2008 and into 2009. 
 
JAKARTA 00000901  002 OF 002 
 
 
 
HUME