Asset Prices, Financial Liberalization, and the Process of Inflation in Japan


WP/94/153-EA
Asset Prices, Financial Liberalization, and the Process
of Inflation in Japan by Alexander W. Hoffmaister and Garry J. Schinasi

This paper examines the relationship in Japan between asset price
inflation and macroeconomic variables, and in particular monetary factors.
The focus is on land price inflation, rather than stock price movements;
while stock prices are difficult to model empirically, land prices generally
move systematically in response to changes in economic fundamentals.
Several related questions are investigated: (1) was there a structural
break in the way monetary factors affected asset prices in the 1980s;
(2) did monetary factors contribute importantly to asset price inflation in
the 1980s; (3) what accounted for the divergent behavior of asset prices and
consumer prices; and (4) is there support for the view that the effects of
monetary factors were concentrated in asset markets rather than in goods
markets?

The paper finds strong evidence of a shift in the relationships between
monetary factors and land prices in the early 1980s: in particular, the
parameters of an estimated vector autoregression imply that the transmission
of monetary factors to asset prices was greater in the 1980s than in the
1970s. A key conclusion is that monetary shocks led to more asset price
inflation and less consumer price inflation in 1984-93 than during 1970-83.
This shift in regime--which is largely attributed to the effects of
financial liberalization--concealed the true, unsustainable, nature of the
rise in asset prices in the late 1980s, which may explain why policymakers
did not fully perceive the implications of allowing the asset price
inflation to proceed as far as it did.