Fight Deflation with Deflation, Not with Monetary Policy

Jonathan E. Leightner

Japanese Economy, 2005, vol. 33, issue 2, 67-93

Abstract: The Japanese government has pinned its hopes of defeating deflation on monetary policy. This article applies a new analytical technique, reiterative truncated projected least squares, (RTPLS) to monthly Japanese data from January 1970 to January 2003. In this application, RTPLS produces a separate estimate of dCPI/d(M2 + CD) and of dCPI/d(M2 + CD) for each observation, which makes it possible to see how they change over time due to the influence of omitted variables. I find that dCPI/d(M2 + CD) falls by 55 percent between October 1997 and January 2003, hampering the Bank of Japan's efforts to fight deflation. I recommend that Japan change its strategy. I recommend that Japan fight deflation with deflation just as firefighters often use smaller fires to burn a fire break in the path of out-of-control forest fires.

Date: 2005
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DOI: 10.1080/2329194X.2005.11045216

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