Is the Indonesian Rupiah set to struggle amid fiscal worries, regional tensions and a firmer USD?

• Pressure on the Indonesian Rupiah builds as fiscal commitments, accelerating inflation and high oil prices increase risks.
• Currency volatility remains within Bank Indonesia’s tolerance limits as the central bank continues market intervention.
• Further gains in USD/IDR remain possible as cuts to gas exports to Singapore and Fed rate expectations provide support.

The Indonesian Rupiah (IDR) remains vulnerable to mounting fiscal concerns, even as USD/IDR breaks its four-day run of gains. Trading near 18,170 in Tuesday’s Asian session, the pair has retreated from Monday’s nearly five-month peak of 18,216. High global oil prices and expensive government initiatives are adding to fiscal pressures. Among these is a proposal for free education from primary school through university, which threatens to further strain a budget already weighed down by free school meal programmes. Inflation risks are also increasing: September’s reading climbed to a three-month high of 3.28%, largely reflecting higher food prices linked to El Niño.

Despite greater volatility linked to escalating Middle East tensions, Bank Indonesia (BI) has reiterated that its policy approach remains unchanged. BI Governor Destry Damayanti said the central bank would continue its intervention strategy. Recent exchange rate moves reflect normal market dynamics, according to BI, which confirmed that it remains active in the market. Another official said fluctuations in the Rupiah remain manageable and comfortably within the central bank’s tolerance limits.

Relations between Indonesia and Singapore are showing signs of geopolitical and economic strain. Against a backdrop of tensions over recurring haze from Indonesian wildfires and Jakarta’s recent gas export cuts, Indonesia’s foreign ministry said it would host Singapore’s top diplomat on Tuesday. To protect domestic supplies, Jakarta cut pipelined gas deliveries to Singapore by roughly 8% from Saturday. The move followed warnings by Indonesia’s energy minister that export contracts with uncooperative partners would be reviewed.

Cautious sentiment ahead of Wednesday’s US Federal Reserve policy decision is supporting the US Dollar (USD), potentially leaving room for USD/IDR to rise further. The broad market expectation is for the Fed to leave interest rates unchanged at its October meeting, with another increase potentially considered in December. The CME FedWatch Tool shows that markets currently assign an 89.5% probability to an October pause and an 82.3% chance to a December rate increase.

Can the Dollar withstand US midterms while longer-term risks persist?

A potential shift in congressional control would do little to change the longer-term vulnerabilities arising from the US political landscape, according to Thu Lan Nguyen at Commerzbank. She argues that the upcoming US midterm elections are "likely to be less relevant for USD exchange rates in the short term than the looming shift in power in Congress might suggest." Nguyen also stresses that "the structural political risks facing the Dollar would remain," even if control of Congress changes.