Why Has Japan Failed to Escape from Deflation?

Kota Watanabe and Tsutomu Watanabe
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Kota Watanabe: Canon Institute for Global Studies (CIGS) and University of Tokyo
Tsutomu Watanabe: Graduate School of Economics, University of Tokyo

No CARF-F-410, CARF F-Series from Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo

Abstract: Japan has failed to escape from deflation despite extraordinary monetary policy easing over the past four years. Monetary easing undoubtedly stimulated aggregate demand, leading to an improvement in the output gap. However, since the Phillips curve was almost flat, prices hardly reacted. Against this background, the key question is why prices were so sticky. To examine this, we employ sectoral price data for Japan and seven other countries including the United States, and use these to compare the shape of the price change distribution. Our main finding is that Japan differs significantly from the other countries in that the mode of the distribution is very close to zero for Japan, while it is near 2 percent for other countries. This suggests that whereas in the United States and other countries the "default" is for firms to raise prices by about 2 percent each year, in Japan the default is that, as a result of prolonged deflation, firms keep prices unchanged.

Pages: 26 pages
Date: 2017-06
New Economics Papers: this item is included in nep-mac and nep-mon
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