THE GRANGER-CAUSALITY BETWEEN MONEY GROWTH, INFLATION, CURRENCY DEVALUATION AND ECONOMIC GROWTH IN INDONESIA: 1954-2002

Abstract

This paper uses annual data for the period 1954-2002 to investigate the causal relationship between money growth, inflation, currency devaluation and economic growth in Indonesia. Three testable hypotheses are investigated: (1) does the money supply growth Granger-cause inflation? (2) does currency devaluation Grangercause inflation? (3) does inflation affect economic growth? The empirical results suggest that there existed a short-run bi-directional causality between money supply growth and inflation and between currency devaluation and inflation. For the complete sample period, the causality running from infla tion to narrow money supply growth was stronger than that from narrow money supply growth to inflation. This result is consistent with the view that in a high-or hyperinflationary economy, inflation does have a feedback effect on money supply growth and this generates a self-sustaining inflationary process. The short-run bi-directional causality between currency devaluation and inflation was, however, weak or not so robust for the complete or any shorter sample period. On the relationship between inflation and economic growth, the results suggest that there was no short-run causality from inflation to economic growth for the complete or any sub-sample period. JEL classification: C50, C52