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The Impact of the Earthquake on the Output Gap and Prices

May 2011
Koji Nakamura
Research and Statistics Department

The earthquake that struck Japan in March 2011 has reduced the supply capacity of the economy, which works in the direction of tightening the output gap. At the same time, however, if weak household and corporate sentiment lead to a decline in aggregate demand, this will work in the direction of increasing the slack in the economy. Moreover, developments in supply and demand conditions will differ for different goods and services. The impact of the earthquake on the output gap and prices, therefore, is not straightforward. Moreover, for these reasons, caution is needed when interpreting the results of production function estimates of the output gap. However, as long as medium- to long-term inflation expectations remain stable, temporary changes in the output gap due to the earthquake will have little effect on general prices in the economy as a whole.

Notice

Bank of Japan Review is published by the Bank of Japan to explain recent economic and financial topics for a wide range of readers. This report, 2011-E-4, is a translation of the original Japanese version, the Bank of Japan Review 2011-J-3, published in May 2011. The views expressed in the Review are those of the authors and do not necessarily represent those of the Bank of Japan.

If you have comments or questions, please contact the Economic Assessment and Projection Group, Economic Research Division, Research and Statistics Department (kouji.nakamura@boj.or.jp).