INFLATION
From several perspectives, inflation is a crucial indicator for maintaining economic stability. The monetary crisis that emerged in mid-1997 led to a surge in inflation in Indonesia, resulting in a decline in purchasing power and a decline in economic growth. This development has positioned inflation as a strategic indicator for efforts to lift the national economy out of a prolonged recession. To date, the government has implemented various efforts, both through monetary inflation control by Bank Indonesia as the monetary authority and disinflationary policies on the aggregate supply side related to production.
There are also several types of inflation: first, mild inflation. Mild inflation does not significantly disrupt the economy because prices only increase in general. Price increases in mild inflation are below 10% per year. Second, moderate inflation. Moderate inflation can be harmful to economic activity because it can reduce the welfare of people with fixed incomes. Price increases during moderate inflation range from 10% to 30% per year. Third, severe inflation. Severe inflation can disrupt economic conditions because people are reluctant to save in banks because bank interest rates are much lower than the inflation rate. Price increases during severe inflation range from 30% to 100% per year. Fourth, very severe inflation. Very severe inflation is inflation that is very difficult to control because price increases in this type of inflation exceed 100% per year.
The effects of inflation include: first, the effect on income (Equity Effects). The effects on income are uneven; some are disadvantaged and others benefit from inflation. Someone earning a fixed income will be disadvantaged by inflation. For example, someone earning a fixed income of Rp. 500,000 per year, while inflation is 10%, will suffer a loss in real income equal to the inflation rate, namely Rp. 50,000. Second, the effect on efficiency (Efficiency Effects). Inflation can also change the allocation pattern of production factors. This change can occur through increased demand for various goods, which can then drive changes in the production of certain goods, resulting in inefficient allocation of production factors. Second, the effect on output (output effects). In analyzing the two effects mentioned above (equity and efficiency effects), the assumption of fixed output is used. This is done to understand the effect of inflation on income distribution and the efficiency of a given output amount.
The effects of inflation on the rupiah exchange rate include: first, decreased purchasing power. When inflation rises, the value of money decreases, meaning the same amount of money cannot buy as many goods or services as before. This reduces people’s purchasing power. Second, increased prices of imported goods. High inflation also makes imported goods more expensive. This can increase demand for US dollars to purchase these goods, while demand for the rupiah decreases. Third, the impact on investment. High inflation can create economic uncertainty and discourage foreign investors from investing in Indonesia, thereby reducing foreign capital inflows and weakening the rupiah. Fourth, currency weakening. In general, a higher inflation rate compared to other countries will weaken the value of the local currency.
The inflation that occurred in Indonesia in 1998 was considered severe. In fact, inflation at that time reached around 77.63%, caused by the monetary crisis. In Indonesia, the Consumer Price Index (CPI) is a measure of changes over a specific period in the general level of prices of goods and services acquired, used, or paid for consumption by a given population. The CPI covers the urban population in the country’s 44 provincial and district capitals. The most important categories in Indonesia’s CPI are Food, beverages, and tobacco (25 percent of the total), Housing, water, electricity, and household fuels (20.4 percent), Transportation (12.4 percent), and Food and beverage providers/restaurants (8.7 percent). The index also includes: Household appliances, tools, and routine maintenance (6 percent); Personal care and other services (5.9 percent); Information, communication, and financial services (5.8 percent); Education (5.6 percent); and Clothing and footwear (5.4 percent). Health and Recreation, sports, and culture account for the remaining 4.7 percent.
From the explanation above, it can be concluded that inflation affects the rupiah exchange rate and increases in the price of goods because inflation itself is a general and sustained increase in the prices of goods and services. When inflation occurs, the value of money decreases, leading to a decline in purchasing power. This weakens the rupiah exchange rate because goods become more expensive, reducing the competitiveness and demand for the rupiah, and increasing the cost of imported goods, ultimately contributing to overall price increases.
By: Safa Umaiza Mahfuzah
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