MONEY VELOCITY, DIGITAL CURRENCY, AND INFLATION DYNAMICS

Danny Hermawan Adiwibowo (), Aryo Sasongko () and Denny Lie
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Danny Hermawan Adiwibowo: Bank Indonesia
Aryo Sasongko: Bank Indonesia

No WP/13/2022, Working Papers from Bank Indonesia

Abstract: This paper empirically investigates the impact of transaction cost-induced varia- tions in the velocity of money on infation dynamics in Indonesia, based on a struc- tural New Keynesian Phillips curve (NKPC) with an explicit money velocity term. This money velocity effect arises from the role of money, both in physical and digital forms, in reducing the aggregate transaction cost and facilitating purchases of goods and services. We fnd a signifcant aggregate impact: our preferred estimates suggest that a 10% reduction in money velocity, which may be facilitated by a new digital currency (e.g. CBDC) issuance, would reduce the infation rate by 1%, all else equal. Using the estimates and within a small-scale, structural New Keynesian model, we investigate the likely implications of a CBDC issuance on aggregate nominal and real fuctua- tions. A CBDC issuance that (conservatively) lowers the velocity of money by 5% is predicted to permanently raise the GDP level by 0.8% and lower the infation rate by 0.8%. Both nominal and real interest rates are also permanently lower. Shocks to the velocity of money are an important driver of aggregate fuctuations.

Keywords: inflation dynamics; transaction cost; velocity of money; digital money; digital currency; digital payments; central bank digital currency (CBDC). (search for similar items in EconPapers)
JEL-codes: E31 E32 E42 E52 E58 (search for similar items in EconPapers)
Pages: 30 pages
Date: 2022
New Economics Papers: this item is included in nep-cba, nep-mac, nep-mon, nep-pay and nep-sea
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https://publication-bi.org/repec/idn/wpaper/WP132022.pdf First version, 2022 (application/pdf)

Related works:
Working Paper: Money velocity, digital currency, and inflation dynamics (2023)
Working Paper: Money velocity, digital currency, and inflation dynamics (2023)
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