Indonesia's central bank maintained its benchmark BI rate at 7.50 percent, as expected, and said it expects inflation to return to its target corridor in 2014 while it cut its economic growth forecast.
Bank Indonesia (BI), which raised the BI rate by a sharp 175 basis points last year to curb inflation and defend the embattled rupiah currency, also said the balance of trade is expected to return to surplus as exports were accelerating due to strong demand from leading trading partners while imports remain sluggish due to moderating domestic demand.
"Recent developments indicate that the rate of inflation is under control and the current account deficit is shrinking," the BI said in a generally upbeat statement.
Indonesia's headline inflation rate fell to 7.75 percent in February from 8.22 percent in January in what the BI described as a "dramatic decline," continuing the gradual decline since July 2013 when it jumped due to a reduction in government fuel subsidies.
In August inflation hit a 2013-high of 8.79 percent and prices remained under pressure due to the impact of the rupiah's depreciation along with higher food prices from flooding.
"The rate of inflation continued to trend downwards in February 2014, reinforcing the prospect of achieving the inflation target in 2014, more specifically 4.5 +/- 1 %, " the BI said.
The BI said core inflation in February was under control at 4.57 percent, up from 4.53 percent, and attributed the "impressive gains made in terms of core inflation" to the policy by central and local governments to minimize the second-round effects of recent natural disasters.
The recent appreciation of the rupiah has also minimized the impact of higher international commodity prices, the BI said, adding it will remain cautious of potential price pressures from changes to administered prices and reinforce the policy mix with the government to ensure inflation remains on track with the inflation target.
After tumbling almost 21 percent in 2013, the rupiah has bounced back this year and rose 5.18 percent against the U.S. dollar in February from January. This month it has continued to firm, quoted today at 11,379 to the dollar, up from 11,609 end February.
"Sound economic fundamentals are driving improvements in the external sector performance, which in turn is strengthening the rupiah exchange rate," the BI said, adding that foreign exchange reserves amounted to US$ 102.7 billion in February, equivalent to 5.7 months of imports and debt servicing.
A January trade deficit US$ 430 million was due to seasonal factors, the BI said, and it expects the trade balance to return to surplus while the current account deficit is expected to be managed at a level below 3 percent of Gross Domestic Product.
In the fourth quarter of 2013 the current account deficit narrowed to $4.018 billion from $8.449 the previous quarter and the BI said it expects inflows of foreign capital to escalate as the domestic economy strengthens. Up to February, inflows of foreign portfolio funds to Indonesia's markets amounted to 34.6 trillion rupiah.
Indonesia's economy has slowed in recent months and the central bank said household consumption is predicted to slow compared with its projections due to a limited impact of elections.
Indonesia's Gross Domestic Product contracted by 1.42 percent in the fourth quarter from the third quarter for annual growth of 5.72 percent, up from 5.62 percent.
But the growth of investment, including non-construction investment, is projected to rebound in the second quarter while exports will accelerate but not as much as forecast due to tepid global economic growth and the temporary impact of the ban of exports of most mineral ores.
"Against this backdrop, Bank Indonesia projects the domestic economy to expand by 5.5-5.9%," the bank said. Previously, the BI forecast 2014 growth in the lower end of a 5.8-6.2 percent range.