The Impact of Government Debt Issuance on Short-Term interest rates in Indonesia

Abstract

This paper analyzes whether the expansionary fiscal policy funded by issuing debt instruments in financial markets will increase short-term interest rates. If the expansionary fiscal policy increases interest rates, which decrease private spending especially investment, crowding out occurs. This is interesting because global economic crisis has encouraged many countries to run large budget deficits to stimulate the economy. Indonesia has also run budget deficit during this crisis and even in years before. The impact of such a policy can be significant because Indonesia’s debt market is still narrow and shallow. Therefore, its capability of absorbing the government debt instruments without influencing the private sector funding is limited. This study tests whether the crowding out occurs in Indonesia using a time series econometric model inspired by Cebula and Cuellar’s model. The Cointegration Regression and Error Correction Model (ECM) are used in this study. Monthly data from April 2000 to December 2008 are used for overnight real interbank call money interest rates, real net government bond issues in trading, real narrow money supply, real rate of one-month Certificate of Bank Indonesia, growth of Gross Domestic Product, and real net international capital flows. This empirical study shows that the crowding out problem occurred in Indonesia during the period. This indicates that financing budget deficit in Indonesia by issuing debt instruments in the financial markets has a negative impact on the private sector.

Can the Credible Fiscal Policy Mitigate the Terms of Trade Fluctuation?

“…In other words, uncertainty in the future when the debt must be repaid is transformed into higher risk in the prices level. Eventually, the behavior of terms of trade tends to decline in the long-run, as found by Abimanyu (1998) in the case of the budget deficit to exchange rates and Adiningsih (2009) in the case of a government bond to interest rates relationships respectively. Furthermore, looking at the control variable, the estimated coefficient of the government size is statistically significant.…”

“…Other previous studies have been characterized by the inward-oriented types. They focused on the impact of fiscal policy partially on the inflation rate (Snyder, 1985;Kuncoro, 2015), exchange rate (Abimanyu, 1998), and interest rates (Adiningsih, 2009). Recently, Simorangkir and Adamanti (2010) analyzed the economic impact of fiscal stimulus, Basri and Rahardja (2011) assessed the fiscal position, and Surjaningsih et al (2012) observed output and prices volatility in accordance with the global financial crisis.…”

Government Debt-Economic Growth Nexus in ASEAN-4 Countries

“…Regarding private investment although the response line is in negative area but the confidence bands encompass the zero-line (Figure 3); therefore, the private investment response is not significant. Within this concept, Adiningsih (2009) using monthly data of 2000-2008 and ECM model claims that rising government debt increases interest rate, thus, crowds out private investment. The response of human capital is negligible as well.…”

The impact of government consumption on the private expenditures in developing country: the case of Indonesia

“…Kwan (2007) obtained that private and government consumption are strong complements. Most of other works in Indonesia has been conducted separately in particular concentrated on the inflation rate (Snyder, 1985), private investment (Ikhsan & Basri, 1991), private consumption (Adji, 1995), current account (Adji, 1998), exchange rate (Abimanyu, 1998), tax revenue (Saleh, 2002), and interest rates (Adiningsih, 2009). In fact, there are mixed evidences of crowding-out and crowding-in effect.…”