Japan Project

July 31 - August 1, 2014
Shiro Armstrong, Australian National University; Charles Horioka, University of the Philippines; Takeo Hoshi, Stanford University; Tsutomu Watanabe, University of Tokyo; and David Weinstein, Columbia University, Organizers

Gary Hansen, University of California, Los Angeles and NBER, and Selo Imrohoroglu, University of Southern California

Fiscal Reform and Government Debt in Japan: A Neoclassical Perspective

Past government spending in Japan is currently imposing a significant fiscal burden that is reflected in a net debt-to-output ratio near 150 percent. In addition, the aging of Japanese society implies that public expenditures and transfer payments relative to output are projected to continue to rise until at least 2050. In this paper, Hansen and Imrohoroglu use a standard growth model to measure the size of this burden in the form of additional taxes required to finance these projected expenditures and to stabilize government debt. The fiscal adjustment needed is very large, in the range of 30 to 40 percent of total consumption expenditures. Using a distorting tax such as the consumption tax or the labor income tax requires either tax to rise to unprecedented highs, although the former is much less distorting than the latter. The extremely high tax rates that the authors find highlight the importance of considering alternatives that attenuate the projected increases in public spending and/or enlarge the tax base.

Jessie Handbury, University of Pennsylvania; Tsutomu Watanabe; and David Weinstein

How Much Do Official Price Indexes Tell Us About Inflation?

Official price indexes, such as the Consumer Price Index (CPI), are imperfect indicators of inflation calculated using ad hoc price formulas that are different from the theoretically well-founded inflation indexes favored by economists. Handbury, Watanabe, and Weinstein provide the first estimate of how accurately the CPI informs us about "true" inflation. They use the largest price and quantity dataset ever employed in economics to build a Törnqvist inflation index for Japan between 1989 and 2010. Their comparison of this true inflation index with the CPI indicates that the CPI bias is not constant but depends on the level of inflation. The authors show the informativeness of the CPI rises with inflation. When measured inflation is low (less than 2.4 percent per year) the CPI is a poor predictor of true inflation even over 12-month periods. Outside this range, the CPI is a much better measure of inflation. The authors find that the U.S. personal consumption expenditures (PCE) deflator methodology is superior to the Japanese CPI methodology, but still exhibits substantial measurement error and biases, rendering it a problematic predictor of inflation in low-inflation regimes as well.

Saroj Bhattarai, Pennsylvania State University; Gauti Eggertsson, Brown University and NBER; and Bulat Gafarov, HSE

Time Consistency and the Duration of Government Debt: A Signalling Theory of Quantitative Easing

Bhattarai, Eggertsson, and Gafarov present a signalling theory of quantitative easing in which open market operations that change the duration of outstanding nominal government debt affect the incentives of the central bank in determining the real interest rate. In a time-consistent (Markov-perfect) equilibrium of a sticky-price model with coordinated monetary and fiscal policy, the authors show that shortening the duration of outstanding government debt provides an incentive to the central bank to keep short-term real interest rates low in the future in order to avoid capital losses. In a liquidity trap situation, where the current short-term nominal interest rate is up against the zero lower bound, quantitative easing can be effective in fighting deflation and a negative output gap as it leads to lower real long-term interest rates by lowering future expected real short-term interest rates. The authors present illustrative numerical examples that suggest that the benefits of quantitative easing in a liquidity trap can be large in a way that is not fully captured by some recent empirical studies.

Suparna Chakraborty, University of San Francisco, and Joe Peek, Federal Reserve Bank of Boston

Lending to Unhealthy Firms in Japan during the Lost Decade: Which, Technical or Financial?

Using a dataset that matches individual Japanese firms to individual lending institutions, Chakraborty and Peek revisit the issue of the misallocation of credit in Japan associated with the perverse incentive faced by a bank to provide additional credit to the weakest firms in a bid to avoid realizing loan losses on its own balance sheet. The authors distinguish between two types of firm distress: financial distress that is marked by a (perhaps temporary) weakening of financial health, and technical distress that reflects weak operational capabilities, as indicated by low total factor productivity (TFP). Their results show that while lenders did extend additional credit to financially distressed borrowers, the recipients of increased loans were not necessarily technically distressed; that is, many of the loans did not represent banks "evergreening" loans to "zombie" firms, when firm health is measured by technical health. In fact, firms with the strongest TFP were the firms that tended to convert additional credit into the most subsequent growth in TFP. Moreover, the authors find that the interpretation of previous results that banks evergreened loans to financially distressed firms may reflect the effect of stronger loan demand rather than loan supply behavior.

Shigeru Fujita, Federal Reserve Bank of Philadelphia, and Ippei Fujiwara, Australian National University

Aging and Deflation: Japanese Experience

Fujita and Fujiwara explore a causal link between the aging of the labor force and the deflationary pressure in Japan. They develop a new Keynesian search/matching model where workers gain firm-specific skills as they age. Using the model, the authors examine long-run implications of the sharp drop in labor force entry during the 1970s. They show that the changes in the demographic structure over time induce significant low-frequency movements in the natural rate of interest. When the monetary authority follows the standard Taylor rule, the inflation rate eventually turns negative and stays persistently negative in the late stages of aging. The key to the model's dynamics is a high degree of firm specificity of human capital.

Andrew Bernard and Andreas Moxnes, Dartmouth College and NBER, and Yukiko Saito, RIETI

Production Networks, Geography and Firm Performance

Bernard, Moxnes, and Saito examine the importance of buyer-supplier relationships, geography, and the structure of the production network in firm performance. They develop a simple model where firms can outsource tasks and search for suppliers in different locations. Firms located in close proximity to other markets, and firms that face low search costs, will search more and find better suppliers. This in turn drives down the firm's marginal production costs. The authors test the theory by exploiting the opening of a high-speed (Shinkansen) train line in Japan which lowered the cost of passenger travel but left shipping costs unchanged. Using an exhaustive dataset on firms' buyer-seller linkages, the authors find significant improvements in firm performance as well as the creation of new buyer-seller links, consistent with the model.

Serguey Braguinsky, Carnegie Mellon University; Atsushi Ohyama, Hokkaido University; Tetsuji Okazaki, University of Tokyo; and Chad Syverson, University of Chicago and NBER

Acquisitions, Productivity, and Profitability: Evidence from the Japanese Cotton Spinning Industry

Braguinsky, Ohyama, Okazaki, and Syverson explore how changes in ownership and managerial control affect the productivity and profitability of producers. Using detailed operational, financial, and ownership data from the Japanese cotton spinning industry at the turn of the last century, the authors find a more nuanced picture than the straightforward "higher productivity buys lower productivity" story commonly described in the literature. On average, acquired firms' production facilities were not less physically productive than the plants of the acquiring firms before acquisition, conditional on operating. However, they were much less profitable because of consistently higher inventory levels and lower capacity utilization, differences which reflected problems in managing the uncertainties of demand. When purchased by more profitable firms, these less profitable acquired plants saw drops in inventories and gains in capacity utilization that raised both their productivity and their profitability levels, consistent with the acquiring owners/managers applying their demand management abilities across the acquired capital.

Hanna Halaburda and Jordan Siegel, Harvard University, and Naomi Kodama, Hitotsubashi University

The Unfairness Trap: A Key Missing Factor in the Economic Theory of Discrimination

Prior evidence linking increased female representation in management to corporate performance has been surprisingly mixed, partly because of data limitations and methodological difficulties, and possibly the omission of a fairness factor in the economic theory of discrimination. Halaburda, Kodama, and Siegel introduce a new theoretical emphasis on unfairness traps, and test their theory on a panel dataset covering managerial demography, corporate performance, and individual compensation from a nationally representative sample of Japanese firms in the 2000s. The authors find that increases in the ratio of female executives, the presence of at least one female executive, and the presence of at least one female section chief are associated with increases in corporate profitability in the manufacturing sector. These results are not exclusive to Japanese firms: North American multinationals operating in Japan also experience substantial benefits from hiring and promoting female managers. The results are robust to controlling for time effects and company fixed effects and the time-varying use of temporary and part-time employees. A very small part of the competitive benefit of employing female managers does flow from compensation savings, but a far larger part arises from direct productivity increases. Prior economic theory on discrimination is largely silent on the impact of discrimination on worker productivity and hence cannot explain these findings. The authors extend the theory by modeling this relationship, and test it empirically by showing that because of possible social comparison costs, only companies whose compensation of female talent compares well with compensation in the local labor market for similarly qualified males will see a significant performance benefit.