The child is getting more mature
A child having tantrums might be aggressive, screaming or running away. Tantrums come in all shapes and sizes, including capital outflow from emerging market (EM). In 2013, the Fed began to end its quantitative easing (QE) or tapering its bond-buying program. It led to the shock on exchange rates, stock and bond market in EM. For Indonesia, the current account deficit (CAD) jumped from 2.7% of GDP in 2012 to 4.4% of GDP in 1H13 despite Indonesia had the 2nd highest GDP growth of all G20 countries back then. Now, the Fed will repeat its history to do tapering. However, we believe that Indonesia is more mature know; Indonesia may be impacted adversely but without throwing heavy tantrum.
Why US needs tapering
Thanks to last year QE, the US economy has been recovering faster than expected. The US GDP grew at 6.5% YoY in 2Q21. The labor market shows robust growth by creating 4.3 million jobs in 2021, leaving employment 5.7 million jobs below its peak in Feb-20. The inflation successfully achieves 5.4% YoY in Jun-21. Consistently, it is above the Fed’s target at 2% YoY in 2021 since Mar-21. Under the pandemic, we see the US inflation is preferrable as it indicates the economic recovery and it is likely to be merely transitory. Hopefully, the economic growth in terms of earnings, wages and other compensation will outpace the current inflation rate. However, the Fed mulls that the massive liquidity should be stabilized as some commodity prices are too high through tapering. The most important, the Fed will do it gradually as the risks still loom – the Covid-19 cases and delta variant.
The Fed’s stance
From the last FOMC Meeting, the Fed have suggested that the Fed rate could go up sooner than expected. The Fed also considers to reduce the QE. However, as the chair, Jay Powell never says a certain word yet about the taper timeline. The latest clue about the taper timeline is from the Jul-21 FOMC Meeting which mentioned Fed officials preparing to taper bond purchases before YE 2021. Thus, market has lot of time to prepare for the impact of US tapering. The more prepared market means the less deteriorative it is to our economy.
More mature, more resilient
Learning from the past, Indonesia took several measures to cope up with the taper tantrum: monetary policies (increasing policy rate, currency intervention, relaxed holding period of BI securities, tightening the secondary reserve requirement), fiscal policies (reducing fuel subsidies, tightening budget) and macroprudential policies (lowering LTV ratios on 2nd and 3rd mortgages, lowering LTD ratio-linked reserve requirement). With prior experience, Bank Indonesia (BI) has already taken notes. However, Indonesia is standing on different ground now compared to where it was in 2013. Indonesia is no longer heavily subsidizing the fuel like in 2013. Related to forex reserves, Indonesia had USD112.8 bn in 2013 where it is thicker now at USD137.3 bn. Related to CAD, it was 2.7% of GDP in 2013 then it narrows to 0.8% of GDP in 2Q21. Besides, from several economic indicators from 2020 in Exhibit 2, Indonesia is better from our peers. This relative stance towards peers is also important as investors will seek for the market with growth besides US to maximize their interest.
More mature, more communicative
Not only Indonesia’s better resiliency, but the US steps in tapering do matter in determining the negative impact of tapering to Indonesia. The basic thing we notice is not the taper itself triggering that tantrum but it was the surprise shift in US monetary policy. With the better understanding towards tapering impact, the Fed has learned. This time, the Fed has better communication strategy in explaining their tapering steps to avoid surprises. The Fed may slow the pace of its asset purchases (USD40 bn of UST and USD35 bn of mortgage-backed securities per month) gradually. By doing so, yields may rise gradually but we believe it will not be translated into tantrum for EM. In terms of money supply, in monthly basis, the M2 growth has been stagnant on 1% especially in Jun-21, it was 0.09% MoM, indicating the inflation pressure is not a big threat for the Fed to do tapering aggressively.