Stock prices and monetary policy in Japan: An analysis of a Bayesian DSGE model

Hoshino, Satoshi and Ida, Daisuke (2021): Stock prices and monetary policy in Japan: An analysis of a Bayesian DSGE model.

Abstract

This paper reevaluates the role of asset price stabilization in Japan during the 1980s through a Bayesian estimation of the dynamic stochastic general equilibrium model. Our results show the presence of the wealth channel from increased stock prices in Japan. In addition, we argue the possibility that the Bank of Japan (BOJ) may have conducted its monetary policy by targeting the stock price stability in addition to inflation and the output gap. The BOJ's response to stock price movements as a matter of policy, however, is subject to considerable uncertainty. Our results indicate that while the BOJ may have reacted to stock prices deviated from their fundamental values, it could not prevent a stock price bubble simply by implementing a contractionary monetary policy shock. Therefore, we conclude that the BOJ's monetary policy stance aimed at stabilizing stock price fluctuations and minimizing macroeconomic volatility, whereas endogenous volatility was caused by bad shocks.

• Item Type: MPRA Paper
• Language: English
• Keywords: Monetary policy; Bayesian estimation; DSGE model; Stock prices; Wealth effect
• Subjects: E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E58 - Central Banks and Their Policies

References

[1] Adjemian, S., Bastani, H., Juillard, M., Mihoubi, F., Perendia, G., Ratto, M., and Villemot, S. (2011). Dynare: Reference manual, version 4.

[2] Airaudo, M. (2013). Monetary policy and stock price dynamics with limited asset market participation. Journal of Macroeconomics, 36, 1-22.

[3] Airaudo, M., Cardani, R., and Lansing, K. J. (2013). Monetary policy and asset prices with belief-driven fluctuations. Journal of Economic Dynamics and Control, 37(8), 1453-1478.

[4] Bernanke, B., and Gertler, M. (2000). Monetary policy and asset price volatility (No. w7559). National bureau of economic research.

[5] Blanchard, O. J. (1985). Debt, deficits, and finite horizons. Journal of political economy, 93(2), 223-247.

[6] Calvo, G. A. (1983). Staggered prices in a utility-maximizing framework. Journal of monetary Economics, 12(3), 383-398.

[7] Carlstrom, C. T., and Fuerst, T. S. (2007). Asset prices, nominal rigidities, and monetary policy. Review of Economic Dynamics, 10(2), 256-275.

[8] Castelnuovo, E., and Nistico, S. (2010). Stock market conditions and monetary policy in a DSGE model for the US. Journal of Economic Dynamics and Control, 34(9), 1700-1731.

[9] Cecchetti, S. G., Genberg, H., and Wadhwani, S. (2002). Asset prices in a flexible inflation targeting framework (No. w8970). National Bureau of Economic Research.

[10] Chadha, J. S., Sarno, L., and Valente, G. (2004). Monetary policy rules, asset prices, and exchange rates. IMF Staff Papers, 51(3), 529-552.

[11] Erceg, C. J., Henderson, D. W., and Levin, A. T. (2000). Optimal monetary policy with staggered wage and price contracts. Journal of monetary Economics, 46(2), 281-313.

[12] Faia, E., and Monacelli, T. (2007). Optimal interest rate rules, asset prices, and credit frictions. Journal of Economic Dynamics and control, 31(10), 3228-3254.

[13] Gambacorta, L., and Signoretti, F. M. (2014). Should monetary policy lean against the wind?: An analysis based on a DSGE model with banking. Journal of Economic Dynamics and Control, 43, 146-174.

[14] Gilchrist, S., and Leahy, J. V. (2002). Monetary policy and asset prices. Journal of Monetary Economics, 49(1), 75-97.

[15] Haugh, D. L. (2018). Monetary policy under uncertainty about the nature of asset-price shocks. Fourteenth issue (September 2008) of the International Journal of Central Banking.

[16] Hirakata, N., Sudo, N., Takei, I., and Ueda, K. (2016). Japan's financial crises and lost decades. Japan and the World Economy, 40, 31-46.

[17] Hirose, Y. (2008). Equilibrium indeterminacy and asset price fluctuation in Japan: A Bayesian investigation. Journal of Money, Credit and Banking, 40(5), 967-999.

[18] Hirose, Y., and Kurozumi, T. (2012). Do Investment‐Specific Technological Changes Matter for Business Fluctuations? Evidence from Japan. Pacific Economic Review, 17(2), 208-230.

[19] Iacoviello, M. (2005). House prices, borrowing constraints, and monetary policy in the business cycle. American economic review, 95(3), 739-764.

[20] Iiboshi, H., Nishiyama, S. I., and Watanabe, T. (2006). An estimated dynamic stochastic general equilibrium model of the Japanese economy: A Bayesian analysis.

[21] Jinushi, T., Kuroki, Y., and Miyao, R. (2000). Monetary policy in Japan since the late 1980s: delayed policy actions and some explanations. Japan’s financial crisis and its parallels to US experience, 115-48.

[22] Kaihatsu, S., and Kurozumi, T. (2014). Sources of business fluctuations: Financial or technology shocks?. Review of Economic Dynamics, 17(2), 224-242.

[23] Kannan, P., Rabanal, P., and Scott, A. M. (2012). Monetary and macroprudential policy rules in a model with house price booms. The BE Journal of Macroeconomics, 12(1).

[24] Matsumae, T., Iiboshi, H., Namba, R., and Nishiyama, S. (2011). An application of hybrid MCMC and simulation smoother in estimating a DSGE Model with measurement errors. J. Japan Statist. Soc. Japanese Issue, 41(1), 83-121.

[25] Miyao, R. (2002). The effects of monetary policy in Japan. Journal of Money, Credit and Banking, 376-392.

[26] Muto, I., Sudo, N., & Yoneyama, S. (2013). Productivity Slowdown in Japan’s Lost Decades: How Much of It is Attributed to Financial Factors?. Unpublished manuscript. Bank of Japan and Boston College.

[27] Nisticò, S. (2012). Monetary policy and stock-price dynamics in a DSGE framework. Journal of Macroeconomics, 34(1), 126-146.

[28] Ogawa, K. (2003) Daifukyo no keizai bunseki. Nihon Keizai Shinbun Sha.

[29] Okina, K., Shirakawa, M., and Shiratsuka, S. (2001). The asset price bubble and monetary policy: Japan’s experience in the late 1980s and the lessons. Monetary and Economic Studies (special edition), 19(2), 395-450.

[30] Pfajfar, D., and Santoro, E. (2012). Credit market distortions, asset prices and monetary policy. Macroeconomic Dynamics 18, 631-650.

[31] Shibamoto, M., Takahashi, W., & Kamihigashi, T. (2020). Japan's Monetary Policy: A Literature Review and An Empirical Assessment. Research Institute for Economics & Business Administration, Kobe University Discussion Paper Series, (DP2020-15).

[32] Sugo, T., and Ueda, K. (2008). Estimating a dynamic stochastic general equilibrium model for Japan. Journal of the Japanese and International Economies, 22(4), 476-502.

[33] Taylor, J. B. (1993). Discretion versus policy rules in practice. In Carnegie-Rochester conference series on public policy (Vol. 39, pp. 195-214). North-Holland.

[34] Yaari, M. E. (1965). Uncertain lifetime, life insurance, and the theory of the consumer. The Review of Economic Studies, 32(2), 137-150.