October 16, 2018
Bank of Japan
Globalization and Monetary Policy
Panelist Speech at BIS Symposium to Mark the 20th Anniversary
of the BIS Representative Office for Asia and the Pacific
(Hong Kong, October 15, 2018)
Haruhiko Kuroda
Governor of the Bank of Japan
First of all, I would like to extend my sincere congratulations to General Manager Carstens,
Dr. Remolona, Chief Representative for Asia and the Pacific, and other staff members of the
BIS Asian Office on the Office's 20th anniversary. Over the past twenty years, the Asian
economies have experienced significant changes, particularly improvements in resilience to
external shocks. The BIS Asian Office has played an important role in these improvements,
including by enhancing cooperation among central banks in the region. I will touch upon the
importance of regional cooperation in promoting global monetary and financial stability later,
but let me first discuss price and financial stability within individual economies under
globalization.
How has globalization affected price and financial stability? As we saw in the global financial
crisis a decade ago, and in the Asian Financial Crisis about two decades ago, global or
regional financial integration did affect domestic financial stability in many countries. While
financial integration facilitates consumption smoothing and diversification of risks across
countries, large and volatile capital flows carry risks for global financial stability. Compared
with the effects on financial stability, what is less evident is how globalization has affected
price stability. Since BIS economists, about a decade ago, proposed the hypothesis that the
factors influencing domestic inflation have become increasingly global,1 this hypothesis has
attracted considerable attention. A large body of empirical studies have examined whether,
and to what extent, global factors such as global economic slack and global competition have
affected domestic inflation dynamics, and whether their roles have increased with global
economic integration. The evidence so far, however, still seems to be inconclusive.
There could be several channels through which globalization affects domestic inflation. Most
obviously, movements in import prices directly affect consumer prices. Moreover, some
global factors such as international competition pressure and cross-border price
differentiation of multinational corporations could affect domestic prices without actual
import flows. These channels may be captured by the global output gap and global markup of
price over cost as additional explanatory variables in the standard Phillips curve equation, in
addition to import prices. More recently, BIS economists have demonstrated that the growing
importance of global value chains might be key to explaining the influence of global factors
on domestic inflation.2 The significance of these global factors has continued to be examined
empirically.
For a better understanding of the role of these global factors in domestic inflation, I would
like to make three points here. First, there are substantial differences between countries as to
how much and through which channels globalization affects domestic inflation, depending on
the country's size, income level, trade openness, and so on. For instance, Japan is a large and
advanced economy but has already been deeply integrated into global and regional value
chains, including with emerging economies. Its domestic output gap considerably reflects
foreign market conditions through net exports. Under these conditions, the additional impact
of increased competition pressure from emerging economies on domestic inflation may be
limited or hard to identify in the estimation of a Phillips curve equation.
Second, various aspects of globalization, such as trade, competition, and value chains, may
affect domestic inflation in different directions. While increased competition pressure and
rising integration in global value chains have placed downward pressure on domestic
inflation, there has been another recent trend toward increasing global market concentration,
particularly in information and communication technology-intensive service industries,
which may pose an upside risk to future inflation through rising markups.3
Third, it is important to distinguish the short-term and the long-term effects of globalization
on inflation. Fluctuations in import prices have only a temporary effect on inflation, and there
is little empirical evidence that the effect of global factors on the trend component of inflation
has been increasing over time.4 Inflation trends in many countries have mainly been driven
by domestic factors, especially long-term inflation expectations. Developments in inflation
expectations are influenced by the actual inflation at short horizons, but it is generally
considered that they are eventually determined by some anchor point at longer horizons.
This last point leads to one answer to the question how monetary policy challenges from
spillovers can be met. Better-anchored inflation expectations based on clear and credible
communications by a central bank would be one way to deal with the spillover of external
shocks. Of course, I understand more challenging situations faced by central banks in
emerging economies that are relatively vulnerable to volatile capital flows and exchange rate
fluctuations. However, as shown in the IMF's World Economic Outlook, published earlier
this month,5 the anchoring of inflation expectations in emerging economies has improved
significantly over the past two decades. It has also been demonstrated that further
improvement in the extent of anchoring could strengthen economic resilience to external
shocks, by reducing inflation persistence and limiting the pass-through of currency
depreciations to domestic prices. Here I would like to briefly mention the case of Thailand,
which was at the epicenter of the Asian Financial Crisis. After the crisis, Thailand moved to a
floating exchange rate regime with a flexible inflation targeting framework. It then
established the legal framework of monetary policy conducted by the Bank of Thailand in an
independent manner. Overall, it has recorded excellent performance in price stability over the
past two decades, and in recent years, the Bank of Thailand has been tackling low inflation
rather than high inflation.
Finally, I would like to come back to the issue of regional cooperation, which is another way
for central banks to deal with the spillover of external shocks. In the East Asia and Pacific
region, we have many opportunities to discuss regional economic and financial market
developments. Close communication and cooperation among central banks through these
opportunities would be crucial, especially in crisis times when huge external shocks could
affect domestic price and financial stability. More specifically, a number of initiatives have
already been established through regional cooperation to enhance the resilience of regional
economies against external shocks. The Chiang-Mai Initiative Multilateralization has been
established as a regional financial safety net for crisis prevention and resolution. In addition,
efforts have been made to develop local currency bond markets, which are important to
eliminate the double mismatches of currency and maturity which exacerbated the debt burden
at the time of the Asian Financial Crisis. In one such initiative, the Executives' Meeting of
East Asia-Pacific Central Banks (EMEAP) set up the Asian Bond Fund (ABF) in 2003, and
since then the BIS has worked closely together with the EMEAP on this initiative. In sum,
both closer regional cooperation and better macroeconomic policy frameworks within
individual economies are important ways to deal with the spillover of external shocks and
thereby promote global monetary and financial stability. I would like to conclude my remarks
by once again expressing my appreciation for the role the BIS Asian Office has played over
the past twenty years, especially in supporting regional cooperation among central banks.
Thank you very much for your attention.