Can exchange rate pass-throughs be perverse? A robust multiple-prior Bayesian SVAR approach*

• Exchange rate pass-throughs by weak demand shocks lower consumer prices in Japan. • Exchange rate movements induced by monetary policy shocks cause no price changes. • Exchange rate movements induced by supply shocks cause no price changes. • Only the demand shock effect is statistically significant based on the robust SVAR. We apply a robust multiple-prior structural VAR model to estimate the exchange rate pass-through of Japan between January 1995 and July 2023, covering the unconventional monetary policy regime. In addition to traditional sign restrictions, we impose narrative sign restrictions on the basis of two economic episodes. According to conventional confidence intervals, the estimated exchange rate pass-through induced by exogenous exchange rate shocks or persistent global shocks is consistent with the conventional view; i.e., the depreciation of the Japanese yen induces inflation at the consumer level. On the other hand, we find evidence of a perverse exchange rate pass-through induced by demand shock. However, according to robust credible intervals, only the exchange rate pass-through induced by demand shock remains statistically significant. Thus, the demand-shock-induced exchange rate pass-through effect may be undermining the continuous efforts of the Bank of Japan to achieve the target of a two-percent inflation rate.