Long run dynamics between exchange rates and stock prices : a case study for Indonesia

This paper attempts to analyse the recent financial crisis in Indonesia and its effect on stock prices of the country. This study also investigates the long-run relationship between exchange rates and stock prices using the cointegration method. Our results indicate that there is no long run relationship between the exchange rate and the stock prices in Indonesia over the entire study period of 1990MI to 2003Ml. The result remains the same when we divide the entire period into pre-currency crisis (1990Ml-1997M6) and post-crisis (1997M7-2003MI) period. We employ the standard Granger Causality test as the exchange rate and the stock price data series are found to be not cointegrated. Our results indicate a bi-directional Granger causality between the exchange rate and the stock prices over the entire study period. Exchange rates Granger-caused the stock prices during the post-currency crisis period while no causality was detected in the pre-currency crisis period between these two financial variables. Keywords: currency-crisis, co-integration, exchange rates and stock prices, Granger Causality test