Abstract
This paper analyzes the excess liquidity especially on banking industry and its impact on monetary policy on Indonesia. We firstly investigate the determinants of bank behavior on their favor for excess liquidity both for precautionary motive and involuntary, and furthermore determine the threshold between low and high excess liquidity regimes. On the next step, this paper evaluates the impact of excess liquidity on monetary policy on the two regimes. Thefirst result shows that the excess liquidity on bank with their precautionary motive is significantly determined by the volatility of money demand, volatility of economic growth, the bank cost of the bank, and also the lag of excess liquidity, which conform its persistence. Secondly, using the Threshold-VAR approach, this paper shows the switching regime occurs in 2005 from low to high excess liquidity. Lastly, the excess liquidity reduces the effectiveness of monetary policy on controlling inflation.Keywords: Excess liquidity, Threshold VAR, monetary policy transmission mechanism.JEL Classification: B23, E5
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