1.

Inflation
a. Definition of Inflation
Inflation is the rise in the price of goods that are general and ongoing. Of this
definition, there are three components that must be met in order to be said to have
occurred inflation:
- Price Increases
- Increasing Commonly
- Occur as Further
1. Price Increases
The price of a commodity is said to rise if it becomes higher than the price of the
previous period. Comparison of price levels can be done by distance longer time: the
week, month, quarter, and year. Price comparison can also be done based on the
benchmark of the season.
2. Increasing Commonly
The increase in the price of a commodity cant be said if inflation does not cause
an increase in prices in general rise.
If the government raised fuel prices, the prices of other commodities also
increased. because fuel is a strategic commodity, then the rise in fuel prices will
spread to other commodity price increases.
The increase in fuel prices also make the selling price of industrial products,
particularly staples, creeping up. For operational costs for running the factory
machines become more expensive. in fact, the increase in fuel prices would invite the
workers demanded wage increases daily, in order to maintain their purchasing power.
3. Occur as Further
General price increase also will bring inflation yet, if the only momentarily.
Therefore the calculation of inflation committed over a period of at least monthly.
Because in a month will be seen whether the price increases are common and
persistent. Longer time spans are quarterly and yearly. If the government reported that
inflation this year is 10%, meaning the accumulated inflation is 10% per year.
Quarterly inflation average of 2.5%, while the monthly inflation rate of about 0.83%.
b. Inflation: The Analysis of Aggregate Demand and Aggregate Supply

1) Aggregate Demand
Aggregate demand is the total demand for goods and services in an economy
over a certain period. AD shape of the curve is the same as the demand curve for a
particular commodity. The difference is the price level is usually in the general
price level index number. Index numbers obtained by calculations using specific
weighting method.

If the change is only the general price level, demand moves along the curve.
But if the changes are factors held constant, the aggregate demand curve shifts.
Factors ceteris paribus in micro analysis such as the improvement in per capita
income and increasing population is relevant as a factor that influences shift the
AD curve.
However, the macro analysis should ceteris paribus plus two factors that
greatly affect aggregate demand. These two factors are the economic policies
taken by the government: monetary policy and fiscal policy.
a) Effects of Monetary Policy on Aggregate Demand
Monetary policy is a policy aimed at directing the macroeconomic to the
desired conditions (better), with a set amount of money in circulation.
Tight money policy (contractive monetary policy) will reduce the amount
of money circulating in the community, this will reduce the purchasing
power in the aggregate. As a result, the AD curve shifts to the left. In

contrast, expansionary monetary policy will increase the amount of money

in circulation.
b) Effects of Fiscal Policy on Aggregate Demand
Fiscal policy is economic policy that aims at directing the macroeconomic
to the desired conditions (better) by adjusting the government budget,
especially the demand side and the expenditure. The main tool of fiscal
policy are taxes and subsidies. If the central government has a budget
deficit of development policy, then aggregate demand will increase,
because the government should reduce revenues by reducing taxes or
increase spending. This will increase the purchasing power of people, so
the AD curve shifts to the right. On the contrary, if the government surplus
into industrial policy.

2) Aggregate Supply (AS)

The government's policy is very influential on aggregate supply. Expansionary
monetary policy, for example by providing credit assistance, can increase
aggregate supply, so the AS curve shifts to the right. Likewise with the
expansionary fiscal policy will increase aggregate supply, so the AS curve shifts to
the right.

3) Inflation and Economic Balance

Economic equilibrium occurs at point E, at the time of the AD and AS curves
intersect. In the diagram level output (GDP) is Y0, the general price level is P0.
Inflation seen if the general price level in the new balance becomes higher.
A point in inflation accompanied by a decrease in output (recession), at point
B output stagnation accompanied by inflation (stagflation), and at point C
inflation accompanied by economic growth (expansion).

4) Demand-Pull Inflation
Demand-pull inflation is inflation occurs because of the dominance of
aggregate demand pressures. The pressure of demand led to increased economic
output, inflation dissertation but views from the higher general price level.

5) Cost-Push Inflation
Cost-push inflation occurs because of rising production costs. Usually causes
reduced aggregate supply. Rising production costs due to rising input prices of
goods which reduces aggregate supply. If the decrease is the aggregate supply,
inflation will be accompanied by economic contraction, so that the amount of
output becomes smaller.

6) Stagflation
Explaining about the combination of two bad state, is stagnation and inflation.
Stagnation is a condition in which the economic growth rate of about zero percent
per year. Total output is relatively not increased, but the condition is accompanied
by inflation. Stagflation happens when aggregate demand increases while the
aggregate supply decreases.

c. Indicators of Inflation
1) Consumer Price Index (CPI)
The consumer price index is an index number that indicates the level of prices
of goods and services to be bought by consumers within a specific period. CPI
figures obtained by calculating the prices of goods and services consumed by the
public key in a specific period. Each price of goods and services is weighted based
on the level of primacy.
In Indonesia, the CPI calculation is done with consideration of several hundred
basic commodities. To better reflect the actual situation, the CPI calculation is
done by looking at regional developments, namely taking into account the rate of
inflation in the major cities, especially the capital of the provinces in Indonesia.
2) Wholesale Price Index (WPI)

If CPI sees inflation from the consumer side, the Wholesale Price Index sees
inflation from the producer side. Therefore WPI often also referred to as the
producer price index. WPI shows the level of prices received by producers in the
various provinces.
3) Implicit Price Index (GDP Deflator)
The type of goods and services produced or consumed in the economy can
reach hundreds of thousands. Economic activity also occurred not only in a few
cities only, but throughout the region. To get the inflation picture that best
represents the real situation, economists use implicit price index (GDP deflator).
Figures deflator has been introduced in the discussion of Gross Domestic Product
based on current prices and constant. As with the two previous indicators, inflation
calculation is done by calculating the change in the index number.
4) Alternatives of Implicit Price Index
The basic principle is based on the GDP deflator inflation calculation is to
compare the level of nominal economic growth with real growth. Difference in
both the rate of inflation. Or we can say:
Inflation = nominal growth - real growth
d. The Social Costs of Inflation
Inflation needed to trigger the growth of aggregate supply. Because the price
increase will spur producers to increase output. Inflation safe around 5% per year, if
forced to a maximum of 10% per year. If more than 10%, it starts very disturbing
economic stability. Moreover, going hyper-inflation is inflation 100% per year.
There are some social problems arising from high inflation (10% per year)
include:
-

The decline in the level of prosperity,

The deterioration of income distribution,
Disruption of economic stability
1) The Decline in The Level of Prosperity

Social welfare, simply measured by the purchasing power of the income.

Inflation causes the purchasing power of the lower income, especially for the low
income. The higher the inflation rate, the faster the decline in the level of welfare.
2) The Deterioration of Income Distribution
Adverse effects of inflation on the level of welfare can be avoided if the
growth rate of revenue is higher than the inflation rate. If inflation is 20% per
year, the growth rate of income must be greater than 20% per year. The problem is
if inflation reaches 20% per year, society has only a handful of people who have
the ability to increase revenue 20% per year. As a result, there is a group of
people who were able to increase real incomes but most people experienced a
decline in real income. Income distribution, the views of real incomes, worsen.
3) Disruption of Economic Stability
Inflation disrupt economic stability by undermining predictions about the
future (expected) economic actors. Fosters chronic inflation forecasts that prices
of goods and services will continue to rise. For consumers this estimate encourage
the purchase of goods and services more than they should. The goal is to further
save on consumption. As a result, demand for goods and services can actually
increase.
For producers will approximate rising prices of goods and services to encourage
them to postpone the sale, in order to obtain greater profits. Offer of goods and
services is reduced. As a result, the excess of demanders enlarge and accelerate the
rate of inflation. Of course, the economic situation will be worse.
2. Unemployment
a. Definition of Unemployment
According to economics someone who will not work, cant be said to be a new
person is said to be unemployed and unemployed when he wants to work and has
been looking for work, but did not get it.
In the science of demography, people looking for work in the group of people
called the labor force. By categories of age, the age of the workforce is 15-64 years
old.

Formulas to Calculate Unemployment

Comparison between the number of unemployed to the labor force overall labor
force called the Unemployment Rate. To measure the unemployment rate in a region
can be obtained from the percentage of dividing the number of unemployed to the
number of jobs is.
Unemployment rate = Number of unemployed / Total Workforce x 100%
There are two main basic classification of the unemployed labor force approach
and the approach to the utilization of manpower.
1) Approach The Workforce
This approach defines unemployment as the labor force that is unemployed.
2) Approach The Utilization of Manpower
In this approach work forces divided into three groups:
a) Unemployed is those who did not work or looking for work. Unemployment is
often referred to as open unemployment.
b) Half the unemployed are those who work but have not been fully utilized. This
means that their working hours are less dari35 hours once a week.
c) Working full that people who work full or her working hours to 35 hours per
week.
b. Types of Unemployment
1) Frictional Unemployment
At any time a small portion of the workforce is unemployed in a state of their
own accord. They stopped on a long job and look for another job. They mean stop
of the job is to look for a better job, earn higher incomes and a guaranteed social
or other facilities better. Unemployed who wish to obtain a better job is called
Frictional unemployment.
2) Structural Unemployment
The technological advances in other economic activities, change in the taste of
the public and the entry of new competitors are more efficient in the market are
several factors that can cause setbacks in something of economic activity. If this is
the case, forced the workers dismissed by the agency that employs them.
Unemployment is so called Structural Unemployment.
3) Cyclical Unemployment
Unemployment Cyclical unemployment is unemployed due to the impact of
economic cycles up and down so that the demand for labor is lower than the offer
of employment.
4) Seasonal Unemployment
Unemployment that occurs in certain times in a year. Typically unemployment
as it applies to a period where farming activities are declining preoccupations. In

the past, the farmers did not do any work at all, meaning they are in idle state. But
unemployment is temporary, and is applicable in certain times. Therefore, called
Seasonal Unemployment.
c. Social Costs of Unemployment
Similarly, inflation, unemployment will also cause negative impacts if
unemployment is already very structural nature or chronically.
1) Disruption of Economic Stability
Structural unemployment and or cronies would destabilize the economy in
terms of demand and aggregate supply.
a) Aggregate Demand Weakening
To survive, man must work. because by working he would earn, which is
used for spending on goods or services. If unemployment is high and is
structural, then the purchasing power will decline, which in turn lead to a
decrease in aggregate.
b) The Weakening of Aggregate Supply
A high unemployment rate will lower the aggregate supply, in view of the
role of labor power as the main production factor, the less labor is used, the
smaller the aggregate supply. The impact of unemployment on aggregate
supply is increasingly felt in the long term. The longer a person is
unemployed, skills, productivity and work ethic will decline.
Weakening demand and aggregate supply would clearly threaten the
stability of the economy. It has been repeatedly proven in the history of the
world economy. E.g., major depression (1929-1933), by economists
recognized due to the weakening of aggregate revenues. East Asian economic
crisis (1998), including one in Indonesia, according to the World Bank (World
Bank, 1999) and the IMF (1998), can be explained in the context of the
interaction of weak demand and aggregate supply.
2) Disruption of Social-Political Stability
High unemployment will increase of crime, both in the form of crime of theft,
robbery, abuse of drugs and illegal economic activities more. The economic costs
incurred to resolve social problems is very large and difficult to measure the level
of efficiency and effectiveness.
3. Inflation and Unemployment: Philip's Curve
Since discussed by professor A.W. Philip (1958), the relationship between inflation
and unemployment became one of the central themes of the macro economy. Results of
the study Prof. Philip about the UK economy the period 1861-1957 showed a negative

relationship and non-linear between rising wages / inflation rate of wages (wage inflation)
and unemployment (unemployment).
The costs of reducing the unemployment rate is inflation (rise in the level of wages).
For example, the initial conditions faced is point B, where the wage rate and the
unemployment rate W2 U2. If the unemployment rate U1 wants to be reduced to the level
of wages rose to W1. Means there is inflation. Had targeted is a reduction, graphically
thing to do is to change the point B to point C, since W3 < W2. But the price to pay is
rising unemployment, because U3 > U2.

a. The Adoption of Keynesian: Short Run Phillips Curve

The findings of Professor Philips adopted by Keynesian economists to explain the
trade-off between inflation and unemployment. If you want to reduce the
unemployment rate, the price paid is heightened inflation. Inflation relationship as
expressed Philips unemployment and adopted the Keynesian, in fact can also be
explained by using the AD-AS curve analysis.
Assumptions of the AD-AS curve analysis is an analysis of the short-term. Factors
of production are generally fixed. Therefore, the growth of aggregate supply can not
be as fast as the growth of aggregate demand. Labor is also a fixed input. In the short
term, the amount is not easy to be added.

The above diagram shows what happens if the economy continues to grow.
Because the aggregate supply cant grow faster than aggregate demand, then the
short-term growth followed by inflation. The points of equilibrium A, B, C shows that
the output becomes larger (Y2> Y1> Y0), but the general prices are also higher (P 2>
P1> P0).
If it is considered there is a stable relationship between employment (N) with the
level of output (Y), then the increase in output will increase employment
opportunities (N2 > N1 > N0). Due to the number work force is also considered to be
fixed, the additional employment will reduce unemployment (U), so U 2 > U1 > U0. To
derivation Philips curve, which needs to be seen is the relationship between P and U.
If P rises then U is reduced.

b. Adoption The Classics: Long Run Phillips Curve

Analysis of the Keynesian inviting objections of the Classics. According to them,

the weakness of the above analysis is a short-term time dimension. The results of the
analysis of the short term will be different when using a long-term analysis.
According to the Classics, in the long term the economy is in a state of fullemployment. AS curve shape becomes perpendicular, so the increase in aggregate
demand will only cause inflation (P2 > P1 > P0); while the output is not increased.
Hence, Long Run Phillips Curve-shaped upright. So according to the Classic, in the
long run there is no trade-off between inflation and unemployment.

4. Government Policy
a. Monetary Policy
Monetary policy is the process regulate the money supply of a country to achieve
a particular purpose; like restrain inflation, and encouraging national development
effort. Monetary policy is primarily a policy that aims to achieve internal balance (the
high economic growth, price stability, equitable development) and external balance
(balance of payments) as well as the achievement of macroeconomic objectives,
namely to stabilize the economy can be measured by employment, price stability and
a balanced international balance of payments.

Monetary policy can be done by the government and the Central Bank by way of
direct or indirect.
Direct monetary policy which is of direct government intervention in terms of
circulation of money or bank credit.
Indirect monetary policy conducted by the central bank by affecting the ability of
commercial banks to provide credit.
Setting the amount of money circulating in the community regulated by increasing
or decreasing the amount of money in circulation. Monetary policy can be classified
into two, namely:
- Expansive Monetary Policy
Is a policy in order to increase the amount of money circulation
-

Contractive Monetary Policy

Is a policy in order to reduce the amount of money circulation. A so-called tight
monetary policy (tight money policy)
1) Types of Monetary Policy
a) Open Market Operations
Open market operations is a way of controlling the money supply by
selling or buying of government securities (government securities). If you
want to increase the money supply, the government will buy government
securities. However, if you want the amount of money in circulation is
reduced, then the government will sell government securities to the public.
Government securities, among others including the SBI or the abbreviation of
Bank Indonesia Certificates and SBPU or abbreviations on money market
securities.
b) Discount Rate
Discount facility is setting the amount of money in circulation by playing
the central bank's interest rate on commercial banks. To make the amount of
money increases, the government lowers the interest rate the central bank, and
otherwise raise interest rates in order to make the money supply is reduced.
c) Reserve Requirement Ratio
Compulsory reserve ratio is a set amount of money in circulation by
playing a number of reserves banks must be kept on the government. To
increase the amount of money, the government lowered the required reserve
ratio. To decrease the money supply, the government raised the ratio.
d) Moral Persuasion
Moral exhortation is monetary policy to regulate the money supply by way
of giving the appeal to economic actors. Examples such as banking urge

lenders to be cautious in issuing credit to reduce the amount of money in

circulation and encourages banks to borrow money over to the central bank to
increase the money supply in the economy.
b. Fiscal Policy
Fiscal policy is a policy made by the government to steer a country's economy
through spending and revenue (tax form) government. Different fiscal policy to
monetary policy, which is aimed at men-stabilize the economy by controlling interest
rates and the money supply. The main instrument of fiscal policy is spending and
taxes. Changes in the level and composition of taxation and government spending can
affect the following variables:
- Aggregate demand and the level of economic activity
- The pattern of distribution of resources
- Distribution of income
With the fiscal wisdom of the government can seek to avoid economy of
circumstances undesirable situation where a lot of unemployment, inflation, balance
of payments deficit of continuous international and so on.
1) There is Analyze of Fiscal Policy
a) Analysis of the fiscal policy in a simple tax system.
With the government's fiscal measures, public

expenditure

for

consumption no longer is Directly determined by the level of national income,

but by the level of income that is ready to spend or disposable income.
b) Analysis of fiscal prudence in the taxation system Built-in Flexible
What is meant by the taxation system is built-in flexible system of income
tax collection, the intention is to flatten the distribution of income in order to
avoid tensions - social tensions. Is said to be flexible because it follows the
income, if large revenues the amount of taxes that are paid large and vice
versa.