Interindustry Linkages of Prices - Analysis of Japan's Deflation

Abstract

Interactions of micro prices with leads and lags play significant role in explaining the behavior of aggregate price index. Thus, for understanding inflation and deflation, it is essential to explore the mechanism of interactions of micro prices. Based on a new method, we show that irrespective of the sources of shocks, there exists robust flow of changes of domestic prices from upstream to downstream. Moreover, we demonstrate that micro prices change in clusters, and identify such clusters. Firms are not symmetric. Overall, our analysis suggests that inertia arising from input/output linkages in production explains the behavior of aggregate prices.

Keywords: IPI, PPI, CPI, Sticky prices, Cluster, PCA

JEL Classification: E31, E32, C40