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New Hedonic Quality Adjustment Method using Sparse Estimation

July 13, 2021

  • Sahoko Furuta*1
  • Yudai Hatayama*2
  • Atsushi Kawakami*3
  • Yusuke Oh*4

Abstract

In the application of the hedonic quality adjustment method to the price index, multicollinearity and the omitted variable bias arise as practical issues. This study proposes the new hedonic quality adjustment method using "sparse estimation" in order to overcome these problems. The new method deals with these problems by ensuring two properties: the "grouped effect" that gives robustness for multicollinearity and the "oracle property" that provides the appropriate variable selection and asymptotically unbiased estimators. We conduct an empirical analysis applying the new method to the producer price index of passenger cars in Japan. In comparison with the conventional standard estimation method, the new method brings the following benefits: 1) a significant increase in the number of variables in the regression model; 2) an improvement in the fit of the regression model to actual prices; and 3) reduced overestimation of the product quality improvements due to the omitted variable bias. These results suggest the possible improvement in the accuracy of the price index while enhancing the usefulness of the hedonic quality adjustment method.

JEL Classification
C43, E31, C52

Keywords
Price Index, Quality Adjustment, Hedonic Regression Model, Multicollinearity, Omitted Variable Bias, Sparse Estimation, Adaptive Elastic Net

The authors thank Naohito Abe, Fumio Funaoka, Yukinobu Kitamura, Chihiro Shimizu, Shigenori Shiratsuka, and the staff of the Bank of Japan for their valuable comments. We also thank Yuto Ishikuro, Marina Eguchi, Taiki Kubo, and Kotaro Shinma for their cooperation in data calculations. All remaining errors are our own. The views expressed in this study are those of the authors and do not necessarily reflect the official views of the Bank of Japan.

  1. *1Research and Statistics Department, Bank of Japan
    E-mail : sahoko.furuta@boj.or.jp
  2. *2Research and Statistics Department, (currently, Financial Systems and Bank Examination Department), Bank of Japan
    E-mail : yuudai.hatayama@boj.or.jp
  3. *3Research and Statistics Department, (currently, International Department), Bank of Japan
    E-mail : atsushi.kawakami@boj.or.jp
  4. *4Research and Statistics Department, (currently, Financial Systems and Bank Examination Department), Bank of Japan
    E-mail : yuusuke.ou@boj.or.jp

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