Indonesia's high rate of inflation will not be quelled by the central bank's decision to increase its benchmark rate earlier this month, an economist says.
Independent commissioner at state owned Bank BRI Aviliani said inflation was not the result of excess money supply, but rather due to high global oil and food prices.
"Even if the central bank tried to reduce the amount of money flowing by raising the rate, it would not have the desired effect on inflation. It would only negatively impact the industries," Aviliani said.
The central bank, Bank Indonesia (BI), raised its benchmark rate by 25 basis points to 8.5 percent on June 5.
Despite the increase, inflation will likely reach new heights, particularly owing to the recent on-average 28.7 percent increase in fuel prices, she said.
She also questioned the effectiveness of the increment in attracting foreign funds, which would have a positive impact on the rupiah.
She said regardless of the high inflation, the inflow of foreign funds was already healthy as Indonesia offered a much higher return compared to many countries with lower interest rates, including China, India, Thailand, Malaysia and Singapore.
"Even at this rate, the inflow of foreign funds is already high at about US$1.5 million dollars per day, so why should we increase it?" she said.
The rupiah, she said, was already stable at about Rp 9,300 to the dollar, and that there was therefore no need to re-adjust it by raising the rate.
There is no cause for further increasing the rate until the U.S. Federal Reserve raises its benchmark, she said
The federal reserve on May 1 lowered its rate by 25 basis points to 2 percent amid a weakening economy.
However, Tony Prasetiantono, chief economic analyst of Bank BNI, said it was still necessary to regularly increase the BI rate in small increments to maintain the value of the rupiah.
He said the widening gap between the interest rate and inflation made the rupiah unattractive to foreign investors.
The weakening of the rupiah is related to the higher prices of imported goods and raw materials that are essential for many of Indonesia's industries. The weak currency also makes it more expensive to repay debts in foreign currencies.
Another drawback of the high rate, Aviliani said, was that it could lead to an abundance of short-term, or portfolio, investments, further burdening state monetary expenses.
BI is estimated to suffer a Rp 8.02 trillion deficit by the end of the year, the bank's new governor Boediono reported to the House of Representative last week. In 2007, it reported a financial shortfall of around Rp 1.4 trillion.
BI posted a surplus of Rp 2.22 trillion in the first quarter of this year, as a policy budget deficit of Rp 4.57 trillion was offset by an operating budget surplus of Rp 6.79 trillion, Boediono said.
Aviliani said rather than adjusting the monetary instrument, the government, including local administrations, should try to curb inflation by monitoring the distribution of subsidized products that have a history of drawing heavily on the state budget.
"Local governments should play a greater role in preventing them (subsidized products) from falling into the wrong hands and causing shortages that can push up prices even more," she said.
