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DEFLATION AND OUTPUT ACROSS SECTORS: RESULTS FOR THE CZECH REPUBLIC


Economics

DEFLATION AND OUTPUT ACROSS SECTORS: RESULTS FOR THE CZECH REPUBLIC

Name and surname of author:

Pavel Ryska, Petr Sklenář

Year:
2018
Volume:
21
Issue:
4
Keywords:
Deflation, price level, economic growth, panel data
DOI (& full text):
Anotation:
The present paper looks into the relationship between deflation and economic output. Previous studies relied uniquely on annual macroeconomic data on GDP and prices, which caused lack of observations…more
The present paper looks into the relationship between deflation and economic output. Previous studies relied uniquely on annual macroeconomic data on GDP and prices, which caused lack of observations on deflation. This paper uses panel data on 86 sectors of the Czech economy in 1993-2015, which offer more variation in price changes and display frequent observations of deflation. Our goal is to test the hypothesis whether deflation negatively affects output growth – as is commonly thought – and whether central banks should counter all deflation that appears. The most common argument against deflation is that decreasing prices lead consumers and firms to postpone purchases, which in turn depresses output.
We find that (1) sectors with output price deflation and below-average inflation have higher growth rate of output, and that (2) these sectors also tend to show quicker growth in gross value added. This evidence contradicts the often held notion that deflation is linked with recession or subpar growth. It also shows that firms with deflating output prices do not have trouble preserving their profits. Deflation observed in the Czech economy in 1993-2015 is likely to be the result of falling unit costs enabled by firms’ investment rather than the result of falling demand. This might have policy implications. Our results highlight that monetary policy should differentiate among sources of deflation and that deflation observed in the Czech Republic has been rather of the ‘good’ type. We believe that our approach using sector data is novel because it uncovers more variation in prices and output than the more common approach that uses macroeconomic aggregates.
Section:
Economics

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