Exchange and interest rate channels during a deflationary era - Evidence from Japan, Hong Kong and China

We examine the role of the exchange and interest rate channels during recent deflation episodes in Japan, Hong Kong and China. We estimate open-economy structural vector autoregressive (SVAR) models for the three economies with different monetary regimes. In both Japan and Hong Kong, exchange rate shocks have a statistically significant impact on prices. Our results provide evidence about the role of external influences in the deflation episodes. They could also be interpreted as providing weak support for suggestions to depreciate the currency to escape a liquidity trap. The importance of interest rate shocks is also found to be high in Japan and Hong Kong. In China, interest rates have not been an important monetary policy tool and neither exchange nor interest rate shocks influence significantly price developments.