(The following statement was released by the rating agency)

Feb 19 - Indonesia's 2012 balance of payments data underline the pressure applied to the sovereign's external finances, although this remains consistent with a 'BBB-' rating, Fitch Ratings says. Indeed, we believe the sovereign external balance sheet will strengthen despite the emergence of a current account deficit (CAD) in 2012.

Last week Bank Indonesia (BI) announced a balance of payments surplus of USD0.2bn for 2012, significantly lower than the USD11.9bn surplus recorded in 2011. The country posted its first annual CAD since 1997 - around 2.7% of GDP - but this was offset by the capital and financial account surplus.

The external finances are a long-standing weakness in the Indonesian sovereign credit profile, and exposure to a potential external liquidity shock remains high. As such, it is an important area to monitor. The emergence of a CAD, while not unexpected for an economy at Indonesia's stage of economic development, highlights greater reliance on external sources of financing.

Robust domestic demand growth has been a driver of Indonesia's CAD, in turn partly reflecting loose monetary and credit conditions. Policy management is among our key rating drivers for Indonesia. We believe BI puts a relatively high weight on fostering growth among its policy priorities. Nonetheless, we expect BI will ultimately pursue policies aimed at averting overheating and ensuring economic and financial stability. One risk to this view is whether BI's willingness to tolerate currency volatility decreases. Currency flexibility is a key tool for BI in its efforts to avoid a potential build-up of macroeconomic imbalances.

Foreign Direct Investment (FDI) inflows have been unable to completely offset the CAD, resulting in a basic balance deficit (current account balance plus net FDI). This has heightened Indonesia's exposure to short term debt capital flows.

In light of Indonesia's limited capacity to absorb capital flow volatility, worries about the CAD have put pressure on the rupiah. BI intervention to support the currency contributed to a 3.5% decline in FX reserves to USD108.8bn in January from USD112.8bn in December 2012. This is the lowest reading in six months, but is equivalent to more than six months of imports. Fitch affirmed Indonesia's sovereign rating at 'BBB-' with Stable Outlook in November and believes the current figures are consistent with this view. Additionally, based on Fitch's projections, Indonesia still has the potential to become a net sovereign external creditor in the coming years.

Presidential elections, to be held in 2014, are expected to limit prospects for economic, fiscal and institutional reform, suggesting responsibility for any required economic adjustment will lie with BI. Such reform could address existing weaknesses in the sovereign credit profile and may ease pressure on the external finances.

(Bangalore Ratings Team, Hotline: +91 80 4135 5898 satish.kb@thomsonreuters.com, Group id: BangaloreRatings@thomsonreuters.com, Reuters Messaging: satish.kb.thomsonreuters.com@reuters.net)

COPYRIGHT

Copyright Thomson Reuters 2013. All rights reserved.

The copying, republication or redistribution of Reuters News Content, including by framing or similar means, is expressly prohibited without the prior written consent of Thomson Reuters.