Makoto Sakurai: Hysteresis and sluggish growth in wages and prices - the case study of Japan

Presentation by Mr Makoto Sakurai, Member of the Policy Board of the Bank of Japan, and Mr Masahiko Kataoka, Director, Secretariat of the Policy Board of the Bank of Japan, at the 30th Villa Mondragone International Economic Seminar, Rome, 25 June 2018.

The views expressed in this speech are those of the speaker and not the view of the BIS.

I. Reversal of Hysteresis

Serious economic downturns create persistent damage to the economy.1 Since the 1990s, the growth trend in Japan’s economy marked a significant fall following each serious economic downturn. This is attributable to persistent damage to the supply side of the economy through various factors such as an increase in the number of “discouraged workers,” who are deterred from seeking employment despite wanting to work, and “involuntary non-regular employees,” who reluctantly accept employment as non-regular employees, together with a slowdown in (human) capital accumulation, and the inefficient business processes that took root under excessive competition. While an economic downturn is fundamentally assumed to be a cyclical, or demand-side, phenomenon, the mechanism by which it influences the medium- to long-term growth trend through damage to the supply capacity is referred to as “hysteresis."

It has also been pointed out that hysteresis that arose in earlier periods can be reversed to a certain degree amid robust aggregate demand.2 In Japan, the uptrend in economic growth has been increasing recently in a situation where aggregate demand has continued to increase strongly, and the aforementioned damage to the supply side of the economy is also being mitigated. Under the circumstances, growth in wages and prices has been contained. Specifically, the expansion of the supply side of the economy due to the reversal of hysteresis eases the upward pressure on wages and prices that has come from an increase in aggregate demand. In other words, hysteresis that arose in earlier periods has created the slack that is easing the tightening of supply-demand conditions. Past economic downturns in Japan have been more serious, and even more frequent, than in other advanced economies. Against this background, the hysteresis in Japan might remain relatively deep-rooted.