Research and Studies

Home > Research and Studies > Bank of Japan Working Paper Series, Review Series, and Research Laboratory Series > Bank of Japan Working Paper Series 2010 > The Role of Money and Growth Expectations in Price Determination Mechanism

The Role of Money and Growth Expectations in Price Determination Mechanism

October 2010
Takeshi Kimura *1
Takeshi Shimatani *2
Kenichi Sakura *3
Tomoaki Nishida *4

Click on Full Text [PDF 212KB]

Abstract

There is a positive cross-country correlation between money growth and inflation rate, and both money growth and inflation rate of Japan are lower than those of other advanced countries. In the"Money view" based on the quantity theory of money, it can be interpreted that Japan's low inflation results from the low growth of money. However, the time-series correlation between money growth and inflation rate in advanced countries including Japan has declined since the mid 1990s. Furthermore, during this period, a strong positive correlation between the potential growth rate and the long-term inflation expectation is observed in Japan, and these facts are not consistent with the Money view. Japan's potential growth rate declined sharply in the past two decades in contrast to other advanced countries, and as a result expectations for future economic growth also declined, which may possibly have caused deflation in Japan. In the"Expected Burden view" based on the fiscal theory of the price level, growth expectations affect the price level as follows: 1) the decline in growth expectations increases the future fiscal burden on the private sector; 2) the private sector then cuts its expenditures to increase savings for the future burdens; 3) as a result, the aggregate demand decreases and hence the aggregate price level falls. This paper examines whether such a mechanism has indeed worked in Japan or not, comparing the inflation developments in the US and the euro area.

Keywords
Money view, Expected Burden view

We are grateful for helpful discussions and comments from Kosuke Aoki, Hidetaka Enomoto, Kunio Okina, Masashi Saito, Toshitaka Sekine, Shinobu Nakagawa, Yoshinori Nakata, Yasuhiro Hayasaki, Hiroshi Fujiki, Ippei Fujiwara, Ichiro Muto, and Shingo Watanabe. We also thank Ryota Nakatani, Hiroyuki Egami, and Yuki Masujima for their excellent research assistance. Any remaining errors are the sole responsibility of the authors. The views expressed herein are those of the authors and should not be interpreted as those of the Bank of Japan.

  •   *1 International Department, Bank of Japan
    E-mail : takeshi.kimura@boj.or.jp
  •   *2 International Department, Bank of Japan
    E-mail : takeshi.shimatani@boj.or.jp
  •   *3 Research and Statistics Department, Bank of Japan
    E-mail : kenichi.sakura@boj.or.jp
  •   *4 International Department, Bank of Japan
    E-mail : tomoaki.nishida@boj.or.jp

Notice

Papers in the Bank of Japan Working Paper Series are circulated in order to stimulate discussion and comments. Views expressed are those of authors and do not necessarily reflect those of the Bank.If you have any comment or question on the working paper series, please contact each author.
When making a copy or reproduction of the content for commercial purposes, please contact thePublic Relations Department (webmaster@info.boj.or.jp) at the Bank in advance to requestpermission. When making a copy or reproduction, the source, Bank of Japan Working PaperSeries, should explicitly credited.