Central bank rate is one of the various tools to manage the economic growth in a country. Central bank rate is a benchmark rate for commercial bank in setting the interest rate in savings and loans. Setting the central bank rate is not easy because low rate may cause high inflation due to the increasing of money supply, whilst high rate may cause the economic grow slower. On 17 February 2015, central bank of Indonesia which is known well as Bank Indonesia (BI) has announced the drop of interest rate by 0.25% to 7.5%. Although some people think the interest rate drop due to political pressure, the analysts at BI must have analysed the effect of reducing interest rate properly before announcing the drop of interest rate. Clearly, the drop of BI rate must have enormous impact to the economy and the exchange rate.
The purpose of Bank Indonesia to drop the interest rate is to offset the slowdown of economic growth. According to the economic data, in 2014, Indonesia economic growth has been slower compared to a year earlier. There were many factors which cause the slowdown of economy; one of them was the high interest rate. BI had increased the interest rate to respond the increase of domestic oil price which was set by the central government in order to keep the inflation rate at the low level. However, since the central government had dropped the domestic oil price, BI responded the policy by reducing the interest rate. BI believes that the inflation rate will remain at the four percent this year with deviation one percent. Hopefully, the interest rate drop will be followed by other commercial banks to drop the interest rate in order to support real sectors growth.
On the other hand, the interest rate drop definitely affects the exchange rate of rupiah to dollar. Exchange rate has been being serious problem at the moment. The exchange rates of rupiah to dollar nearly reach Rp.13.000 per USD. This is the lowest exchange rate since the monetary crisis at the end of 1990’s. The weakening of the rupiah had narrowed trade deficit in December 2014, still it harms the real sectors which use import raw material for the production process. The drop of interest rate is believed may not cause the exchange rate worse. Exchange rate will remain at the region of Rp.12.000 to Rp.13.000 per USD because Federal Reserves, central bank of U.S, will not raise the interest rate in the near future.
BI rate had been down by 0.25% to 7.5%. BI took this decision after considering the inflation rate in Indonesia which stays at below 5%. The drop of BI rate may have vast impact to the Indonesia economic growth and exchange rate. Indonesia economic growth is believed will grow higher than last year, while the exchange rate might not be worse because of this decision. After reducing the BI rate, BI hopes that commercial banks will reduce the interest rate in order to stimulate the economic growth.
