Kota Watanabe Tsutomu WatanabeCIGS & Univ of Tokyo University of Tokyo

May 12, 2017

A comparison of micro price dynamics in China, Japan, and US

byKozo Ueda

Kota Watanabeand

Tsutomu Watanabe

2

Consumer price inflation in Japan

3

-5

0

5

10

15

20

2519

6001

1961

0719

6301

1964

0719

6601

1967

0719

6901

1970

0719

7201

1973

0719

7501

1976

0719

7801

1979

0719

8101

1982

0719

8401

1985

0719

8701

1988

0719

9001

1991

0719

9301

1994

0719

9601

1997

0719

9901

2000

0720

0201

2003

0720

0501

2006

0720

0801

2009

0720

1101

2012

0720

1401

2015

0720

1701

CPI InflationOvernight Call Rate

Phillips curve in Japan, 1971-2016

4

-5

0

5

10

15

20

25

1 2 3 4 5 6

CPI I

nfla

tion

Unemployment rate

1971-19891990-19992000-20122013-2016

Price rigidity at near-zero inflation rates

1. To what extent?2. Why? 3. Any implications?

5

Sectoral price data

6

Example of “items” in Japan’s CPI data

YoY CPI Inflation by Item

7

■Price increase ■Price Unchanged ■Price decline

Serv

ices

Goo

dsStart of Abenomics

8

-10123456789

1019

9201

1993

0119

9401

1995

0119

9601

1997

0119

9801

1999

0120

0001

2001

0120

0201

2003

0120

0401

2005

0120

0601

2007

0120

0801

2009

0120

1001

2011

0120

1201

2013

0120

1401

2015

0120

1601

2017

01

Haircut price inflation in Japan and Germany

Japan Germany

9

0.00

0.05

0.10

0.15

0.20

0.25

0.30

-3 -2 -1 0 1 2 3

Standardized price change, percent

Histogram of standardized price changes in March 2017

JapanGermanyStandard normal dist.Standard laplace dist.

Fraction of items with a near-zero inflation rate

10

0%

10%

20%

30%

40%

50%

60%19

7119

7319

7519

7719

7919

8119

8319

8519

8719

8919

9119

9319

9519

9719

9920

0120

0320

0520

0720

0920

1120

13

Fiscal year

Inflation rate=0%-0.1%<Inflation rate<+0.1%-0.3%<Inflation rate<+0.3%-0.5%<Inflation rate<+0.5%

A little bit abut the theory

• Trend inflation (∆𝒎𝒎𝒕𝒕)– Trend inflation is determined by monetary policy.– Menu cost model implies that prices become stickier as trend inflation

goes down from positive or as it goes up from negative.– The mode of price change distribution is affected at least partially by trend

inflation.• Inflation norm (�𝝅𝝅)

– Okun (1981)– There exists a social norm about price/wage inflation. The norm is

determined by various things, including historical path of inflation, policies and institutional things adopted by the government and the central bank. The norm could change over time but only gradually.

– The mode of price change distribution is affected at least partially by inflation norm.

11

Cross-country comparison of the item-level price change distribution

We compare eight countries in terms of:

❶ Fraction of items with no price change

❷Mode of the item-level price change distribution

❸ Relative price variability (RPV)

to see whether there is any difference in �𝜋𝜋 (i.e., inflation norm) and ∆𝑚𝑚𝑡𝑡(i.e., trend inflation) between the countries.

12

Number of items Sample periodJapan 588 1970-2016United States 182 1970-2016Canada 170 1985-2016Germany 577 1991-2016France 262 1990-2016Switzerland 268 1982-2016Italy 215 1996-2010United Kingdom 687 1997-2016

0

5

10

15

20

25

30

35

40

[-5.2

5, -4

.75)

[-4.7

5, -4

.25)

[-4.2

5, -3

.75)

[-3.7

5, -3

.25)

[-3.2

5, -2

.75)

[-2.7

5, -2

.25)

[-2.2

5, -1

.75)

[-1.7

5, -1

.25)

[-1.2

5, -0

.75)

[-0.7

5, -0

.25)

[-0.2

5, 0

.25)

[0.2

5, 0

.75)

[0.7

5, 1

.25)

[1.2

5, 1

.75)

[1.7

5, 2

.25)

[2.2

5, 2

.75)

[2.7

5, 3

.25)

[3.2

5, 3

.75)

[3.7

5, 4

.25)

[4.2

5, 4

.75)

[4.7

5, 5

.25)

Freq

uenc

ies

Item Level Inflation

Japan, Mar 2014

US, Mar 2014

Canada, Mar 2014

UK, Mar 2014

13

Result #1:Mode of the price change distribution conditional on trend inflation

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 firms keep prices unchanged. This is true even if we control for trend inflation.

Trend inflation

14

Result #2: Fraction of items with no price change conditional on trend inflation

Price stickiness increases as trend inflation comes closer to zero, which is consistent with the prediction of menu cost models. However, prices are much stickier for Japan than the other countries.

Trend inflation

15

Result #3:Relative price variability conditional on trend inflation

Result #1: the mode of the item-level price change distribution is lower for Japan than the other countries.Result #3: the bottom of the U-shaped relationship between RPV and trend inflation is lower for Japan than the other countries.

➡ Both of the two findings suggest that inflation norm is around zero for Japan but it is higher and positive for the other countries.

RPV=Difference between the 90th and 10th percentiles of the item level price change distribution

0.040

0.045

0.050

0.055

0.060

0.065

-0.40-0.38-0.36-0.34-0.32-0.30-0.28-0.26-0.24-0.22-0.20-0.18-0.16-0.14-0.12-0.10-0.08-0.06-0.04-0.020.000.020.040.060.080.100.120.140.160.180.200.220.240.260.280.300.320.340.360.380.40

Cros

s se

ctio

nal S

td D

ev

delta m

skewness=0

∆𝑚𝑚𝑡𝑡

Simulation result

Trend inflation

Main findings and implications

To what extent were prices sticky?• For the majority of the 588 items constituting the CPI, the year-on-year

rate of price change was near-zero, indicating the presence of very high price stickiness. This situation started during the onset of deflation in the second half of the 1990s and continued even after the CPI inflation rate turned positive in spring 2013.

Why were prices so sticky?• The observed difference between Japan and the other countries cannot

be explained by the difference in ∆𝑚𝑚𝑡𝑡 (i.e., trend inflation) but it can be explained by the difference in �𝜋𝜋 (i.e., inflation norm). Inflation norm is in the vicinity of zero for Japan, while it is somewhere around 1 percent for the other countries. It seems likely that it is the result of the prolonged deflation Japan has experienced, which has led firms to gradually change their pricing behavior and eventually keep prices unchanged.

Any implications?• Given that inflation norm is already very close to zero for Japan, it will not

be easy to end deflation.

16