Real effects of quantitative easing at the zero lower bound: Structural VAR-based evidence from Japan

Abstract

Using monthly post-1995 Japanese data we propose a new sign-restriction based approach to identify monetary policy shocks when the economy is at the zero-lower bound. The identifying restrictions are thoroughly grounded in liquidity trap theory. Our results show that a quantitative easing shock can lead to a significant but temporary rise in industrial production. The effect on inflation, however, is not significantly different from zero. Our results are robust to different specifications, in particular to the further identification of aggregate demand and supply shocks under liquidity trap conditions. Accordingly, our results imply that while the Japanese Quantitative Easing experiment was successful in stimulating economic activity in the shortrun, it did not lead to any increase in the inflation rate. We believe these results are interesting not only for the Japanese economy, but also for other advanced economies, such as the U.S., where monetary policy is constrained by the ZLB.

Are there differences in the effectiveness of quantitative easing at the zero-lower-bound in Japan over time?

“…To identify a QE shock, we follow Schenkelberg and Watzka (2013) and use their sign restriction approach when the economy is stuck at the ZLB. Essentially the idea is to let the variables of interest, in particular real GDP, unrestricted, whilst imposing relatively mild sign restrictions on the remaining variables.…”

“…For a thorough overview of the demand and supply shocks, please refer to Eggertsson (2011) and Schenkelberg and Watzka (2013). For a brief summary on the identification strategy of the demand and supply shocks, refer to Appendix D.1.…”

“…These sign restrictions were introduced by Schenkelberg and Watzka (2013) in a BVAR to identify a QE shock when the economy is stuck at the ZLB. 3 Next to the QE shock, two business cycle disturbances, a demand and a supply shock, are identified for two reasons:…”

“…We specifically analyse the so- To identify a QE shock, we follow Schenkelberg and Watzka (2013) and use a new sign restriction approach when the economy is stuck at the Zero Lower Bound (ZLB). To allow for time variation in the impulse responses, we embed this identification strategy in the TVP-VAR framework of Primiceri (2005).…”

How Does Unconventional Monetary Policy Influence the Economy in Japan?

“…This subsection summarizes the previous studies that have addressed monetary policy in Japan, which (2014) and Schenkelberg and Watzka (2013). Table 2 summarizes the salient aspects of these papers.…”