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The Inflation Rate Is Falling, but Prices Are Not
Inflation is likely a topic your students are familiar with, but there is still a lot of confusion around the concept. This brief article explains the seeming paradox we see in our economy: The inflation rate is decreasing, but prices continue to increase. We’ll also disentangle the concepts of inflation, disinflation, deflation, and the CPI.
Working Paper
Why Aging Induces Deflation and Secular Stagnation
We provide a quantitative theory of deflation and secular stagnation. In our lifecycle framework, an aging population puts persistent downward pressure on the price level, real interest rates, and output. A novel feature of our theory is that it also recognizes the reactions of government policy. The central bank responds to falling prices by reducing its policy nominal interest rate, and the fiscal authority responds by allowing the public debt–gross domestic product ratio to rise.
Report
The Curious Case of the Rise in Deflation Expectations
We study the behavior of U.S. consumers’ inflation expectations during the high inflation period of 2021-23 using data from the New York Fed’s Survey of Consumer Expectations. Inflation expectations rose and fell as inflation surged and then moderated, but with notable differences across forecast horizons. Inflation uncertainty and disagreement also rose markedly and then abated. Despite the sharp rise in inflation, we see a sizable increase in the left tail of the distribution of medium- and longer-term expectations and increased expectations of deflation. Using a pair of special ...
Working Paper
DECLINING TRENDS IN THE REAL INTEREST RATE AND INFLATION: THE ROLE OF AGING
This paper explores a causal link between aging of the labor force and declining trends in the real interest rate and inflation in Japan. We develop a New Keynesian search/matching model that features heterogeneities in age and firm-specific skills. Using the model, we examine the long-run implications of the sharp drop in labor force entry in the 1970s. We show that the changes in the demographic structure induce significant low-frequency movements in per-capita consumption growth and the real interest rate. They also lead to similar movements in the inflation rate when the monetary policy ...
Working Paper
Assessing Abenomics: Evidence from Inflation-Indexed Japanese Government Bonds
We assess the impact of news concerning the reforms associated with ?Abenomics? using an arbitrage-free term structure model of nominal and real yields. Our model explicitly accounts for the deflation protection enhancement embedded in Japanese inflation-indexed bonds issued since 2013, which pay their original nominal principal when deflation has occurred from issue to maturity. The value of this enhancement is sizable and time-varying, with substantive impacts on estimates of expected inflation compensation. After properly accounting for deflation protection, our results suggest that ...
Report
Deflationary shocks and monetary rules: an open-economy scenario analysis
The paper considers the macroeconomic transmission of demand and supply shocks in an open economy under alternative assumptions about whether the zero interest rate floor (ZIF) is binding. It uses a two-country general-equilibrium simulation model calibrated to the Japanese economy relative to the rest of the world. Negative demand shocks have more prolonged and conspicuous effects on the economy when the ZIF is binding than when it is not binding. Positive supply shocks can actually extend the period of time over which the ZIF may be expected to bind. Economies that are more open hit the ZIF ...
Working Paper
Inflation targeting and the anchoring of inflation expectations: cross-country evidence from consensus forecasts
Using survey data of inflation expectations across a 36 developed and developing countries, this paper examines whether the adoption of inflation targeting has helped to anchor inflation expectations. We examine the response of inflation expectations following a shock to inflation, inflation expectations, and oil prices. For the 13 countries that adopted inflation targeting midway through the time period used in this study, there is a significant difference in the responses between the earlier and the later subperiods. A shock leads to a positive, significant, and persistent increase ...
Working Paper
Banking panics and deflation in dynamic general equilibrium
This paper develops a framework to study the interaction between banking, price dynamics, and monetary policy. Deposit contracts are written in nominal terms: if prices unexpectedly fall, the real value of banks' existing obligations increases. Banks default, panics precipitate, economic activity declines. If banks default, aggregate demand for cash increases because financial intermediation provided by banks disappears. When money supply is unchanged, the price level drops, thereby providing incentives for banks to default. Active monetary policy prevents banks from failing and output from ...
Working Paper
Trade linkages and the globalisation of inflation in Asia and the Pacific
Some observers argue that increased real integration has led to greater co-movement of prices internationally. We examine the evidence for cross-border price spillovers among economies participating in the pan-Asian cross-border production networks. Starting with country-level data, we find that both producer price and consumer price inflation rates move more closely together between those Asian economies that trade more with one another, ie that share a higher degree of trade intensity. Next, using a novel data set based on the World Input-Output Database (WIOD), we examine the importance of ...
Journal Article
Coronavirus and the Risk of Deflation
The pandemic caused by COVID-19 represents an unprecedented negative shock to the global economy that is likely to severely depress economic activity in the near term. Could the crisis also put substantial downward pressure on price inflation? One way to assess the potential risk to the inflation outlook is by analyzing prices of standard and inflation-indexed government bonds. The probability of declining price levels—or deflation—among four major countries within the next year indicates that the perceived risk remains muted, despite the recent economic turmoil.