Dynamics of Inflation and Unemployment in Indonesia: Vector Error Correction Model (VECM) Approach

Abstract

This research analyzes the relationship between inflation and unemployment in Indonesia using the vector error correction model (VECM). This research uses secondary data from the world bank which includes the inflation rate, unemployment rate, gross domestic product (GDP), and consumer price index (CPI) in Indonesia during the 1990-2021 period. This research finds that inflation and CPI influence each other, but do not influence unemployment and GDP. On the other hand, unemployment and GDP influence each other, but have no effect on inflation and CPI. This research also shows that unemployment is the variable most responsive to deviations from long-term equilibrium, inflation is the variable that changes most quickly to reach balance, and GDP is the variable that changes slowest to reach balance. This research provides several implications for government policy in overcoming the problem of inflation and unemployment in Indonesia.