Monetary Instruments and Inflation: Econometric Analysis Based on Malaysia Economy

The relationship between inflation and monetary policy is widely discussed in the research paper. The increase in inflation is seen as an indicator of a country’s constant growth. However, it is crucial for the government to keep the country's inflation under control by adopting the right policies such as monetary policy. This paper is assessing the impact of monetary instrument in controlling inflation rates in Malaysia over the period of 1970 to 2010. The analysis begins by testing the unit root test to determine the stationarity of the data. All the variables are found to have a long run relationship based on the Johansan Juselius cointegration test. From the causality test, it was also found that there is an existence of unidirectional causality for all variables of CPI, interest, reserve and money supply for Malaysia. The findings of this paper have some handy proposals that should help the policymaker to develop a plan of action for the development of this nation. First, the authority must constantly monitor the level of reserve requirement in the country. Second, the authority needs to control the amount of money supply in order to control money volume in the market to reduce the excess demand of goods and services. Third, the central bank needs to monitor the level of interest rate closely in order to control the inflation problem in the country.