The Role of Interest Rates and Provincial Monetary Aggregate in Maintaining Inflation in Indonesia

Abstract

Inflation is a regional phenomenon hence the use of provincial data might be more appropriate on explaining the relationship between monetary policy and inflation. This paper analyzes the impact of changes in provincial money supply, the policy rate, and the interbank rate on regional inflation, within the framework of Hybrid New Keynesian Phillips Curve (HNKPC). This paper employs Generalized Method of Moments (GMM) on panel data of 32 provinces from 2005-III to 2014-IV. The estimation result shows that provincial monetary aggregate influence inflation significantly only in Sumatera. Furthermore, the policy fate affects the inflation in Sumatera and Kalimantan-Sulawesi. Using the interbank money rate, the result shows this rate also affect the inflation in most of the region except Kalimantan-Sulawesi. These findings show the price-based policy is more significant on affecting the provincial inflation compared to the provincial money supply.