Inflation Expectations, Liquidity Premia and Global Spillovers in Japanese Bond Markets

Jens Christensen and Mark Spiegel

No 2024-12, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: We provide market-based estimates of Japanese inflation expectations using an arbitrage-free dynamic term structure model of nominal and real yields that accounts for liquidity premia and the deflation protection afforded by Japanese inflation-indexed bonds, known as JGBi’s. We find that JGBi liquidity premia exhibit significant variation, and even switch sign. Properly accounting for them significantly lowers the estimated value of the indexed bonds’ deflation protection and affects inflation risk premium estimates. After liquidity adjustment, long-term Japanese inflation expectations have remained relatively stable at levels modestly exceeding one percent during the pandemic period. We then utilize our estimated liquidity measure to confirm the existence of statistically significant and economically meaningful spillovers to the JGBi market from global bond market illiquidity, as proxied by periods of low U.S. Treasury market depth.

Keywords: affine arbitrage-free term structure model; deflation risk; deflation protection; Liquidity Spillovers (search for similar items in EconPapers)
JEL-codes: C32 E43 E52 G12 G17 (search for similar items in EconPapers)
Pages: 41
Date: 2024-04-08
New Economics Papers: this item is included in nep-ban, nep-ifn and nep-mon
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DOI: 10.24148/wp2024-11

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