Bad timing for Indonesia to be living dangerously again

Bank Indonesia’s off‐cycle rate hike on June 9 underscored just how alarmed policymakers are about the trajectory of Southeast Asia’s largest economy. It also serves as an early warning to the rest of the world about the financial and economic storm clouds gathering over emerging markets. BI’s 25‐basis‐point increase, which lifted the benchmark rate to 5.50%, was aimed squarely at stabilizing the rupiah, which recently touched a record low, breaching 18,000 to the dollar. Indonesia’s currency is hardly alone: the rupee is sliding to fresh lows despite heavy Reserve Bank of India intervention, the Philippine peso is under acute pressure, the South Korean won is tumbling even as global funds pile into Seoul’s equity rally and the Malaysian ringgit continues to weaken. The common denominator is a runaway dollar amplifying Asia’s structural vulnerabilities. In Indonesia’s case, those include twin deficits and growing unease over President Prabowo Subianto’s erosion of the central bank’s independence. His emphasis on political control over economic reform has global investors openly discussing a “sell Indonesia” trade. All of this is unfolding at the worst possible moment, with the Iran war dragging on and keeping global energy prices elevated. That BI chose to move ahead of next week’s scheduled Board of Governors meeting — as analysts at Phintraco Securities note — highlights the urgency. The central bank felt compelled to act outside the normal cycle, a sign of just how quickly and badly conditions are deteriorating. To UOB Kay Hian, an analyst at Suryaputra Wijaksana, it “signals that the US-Iran war is now materially impacting Indonesia’s economy and external balance.” Yet it’s even worse than that. Middle East fallout is colliding with US President Donald Trump’s latest tariff tantrum. Last week, Trump made clear that a rebuke by the US Supreme Court in February hasn’t reduced his appetite for tariffs as he slapped 10% levies on at least 60 economies, this time on labor issues. All of Asia is exposed as the US Federal Reserve pivots toward rate hikes, but Indonesia’s self‐inflicted vulnerabilities make it stand out — no small feat in a region where governments often work against their own long‐term economic interests. Investors pulling money from Indonesia — and driving Jakarta equities to five‐year lows — are selling on Prabowo’s questionable fiscal maneuvers, export controls and pressure on Bank Indonesia. But the deeper problem may be a lack of self‐awareness within Prabowo’s economic team. Its policy mix has grown so unpredictable that MSCI is considering downgrading Indonesia to frontier‐market status, a move that has cast a months‐long shadow over the rupiah and Indonesian asset markets. This would thus seem an obvious moment to recalibrate the nation’s regulatory stance. As Jason Tuvey of Capital Economics put it, “What investors are looking for is a shift in the policy direction of President Prabowo and his government, and so far, that doesn’t seem to be in the works.” Citigroup economist Helmi Arman added: “We have not seen much announced in terms of structural policies that addresses the perceived deterioration of the investment climate.” In the near term, markets are bracing for more rate hikes, including at the June 17–18 board meeting. With its May move included, Bank Indonesia has now delivered 75 basis points of tightening in just three weeks. Further hikes may be unavoidable as FX intervention so far has failed to steady the rupiah. On Monday, BI disclosed that FX reserves fell to US$144.9 billion at the end of May, down $1.3 billion from April — a sign of how costly defending the currency has become. As BI said in its rate-hike statement on Tuesday: “The already strong fiscal-monetary coordination will be continuously strengthened and sustained over time to remain mutually supportive and aligned.” But as Prabowo’s team pledges to work more closely with BI Governor Perry Warjiyo to increase the appeal of Indonesian assets and boost portfolio inflows, Jakarta doesn’t seem to realize it’s that very coordination that’s spooking markets. Last week, lawmakers approved legislation expanding Bank Indonesia’s mandate to include boosting economic growth. Supporters argue that a dual mandate isn’t unusual — the US Federal Reserve also balances inflation control with employment goals. But the law goes further: BI officials will now face parliamentary performance evaluations, a shift that raises clear red flags about institutional independence. Concerns had already intensified after President Prabowo Subianto’s January move to nominate his nephew, Thomas Djiwandono — currently a deputy finance minister — to BI’s Board of Governors following the resignation of Deputy Governor Juda Agung. Prabowo’s allies point to parallels, noting that US President Donald Trump nominated his own White House economic adviser, Stephen Miran, to the Federal Reserve’s board. Yet Prabowo’s efforts to weaken Indonesia’s economic guardrails predate the current BI changes. In September 2025, he abruptly dismissed Sri Mulyani Indrawati, the globally respected finance minister long viewed as the key check on Indonesia’s fiscal profligacy. Her replacement, Purbaya Yudhi Sadewa, quickly oversaw a roughly $12 billion fiscal injection to spur lending and advance a controversial “burden‐sharing” plan — pressuring BI to loosen monetary policy just as the finance ministry opened the fiscal taps. In a joint statement at the time, the Finance Ministry and BI assured global investors that the arrangement will be conducted “transparently, accountably and with strong governance.” They claimed the “synergy continues to refer to the principles of prudent fiscal and monetary policies, while maintaining market discipline and integrity.” Paramadina University economist Wijayanto Samirin spoke for many when he warned that this scheme has “the potential to damage BI’s reputation as an independent institution. Several things BI is doing are odd. They get too deep and detailed into fiscal matters and this disrupts our monetary policy ecosystem.” Capital Economics cautioned that “the experience from other emerging markets shows that an erosion of central bank independence typically leads to higher inflation and inflation expectations. A prolonged period of high real interest rates would, eventually, be needed to get inflation back down.” The rupiah’s slide past 18,000 per dollar captures the scale of Indonesia’s troubles. Its 8.2% drop this year outpaces even the rupee’s 6% decline — Asia’s worst performer in 2025 — and exposes the gap between Prabowo’s “make Indonesia great again” rhetoric and global market realities. Since taking office in October 2024, Prabowo has pledged to lift annual growth to 8% by 2029, a pace Indonesia hasn’t seen since the eve of the 1997-98 Asian financial crisis. First‐quarter growth of 5.6% year‐on‐year, the fastest since late 2022, reflects both the heavy fiscal stimulus unleashed after Sri Mulyani’s dismissal and the commodity windfall from the Iran‐driven energy shock. But the echoes of 1997 cut both ways. Indonesia’s economic collapse during that crisis helped topple Suharto — the authoritarian leader under whom Prabowo rose as a military general. Successive governments spent decades dismantling the kleptocratic political and economic system Suharto built over 32 years. Whether Prabowo intends to revive elements of that system remains unclear. But he moved quickly to sideline allies of former President Joko Widodo, who helped secure his election — a shift that has only deepened investor unease. From 2014 to 2024, Widodo notched a series of high‐impact reforms. Alongside rapid economic growth and major infrastructure upgrades, Widodo made unprecedented progress in reducing extreme poverty in a nation of 287 million. Indonesia also navigated the Covid‐19 shock more effectively than many peers. Early in Prabowo’s term, global investors welcomed his promises to accelerate growth and attract investment. That optimism has since faded. Concerns over Indonesia’s fiscal trajectory, rising economic nationalism, potential democratic backsliding and questions about central‐bank independence have driven capital out of rupiah‐denominated assets. Against this backdrop, Bank Indonesia’s rate hikes are treating symptoms, not causes. Monetary tightening can slow the rupiah’s slide, but it cannot offset the policy uncertainty that is pushing investors to the exits. “The market is still waiting for proof of whether the medicine given is truly capable of curing the disease,” said Liza Camelia Suryanata, head of research at PT Kiwoom Sekuritas Indonesia. She added that “the issue currently being debated by the market is whether the policies taken are capable of maintaining investor confidence and turning that potential into growth that can truly be enjoyed by capital holders.”