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Employing a new accounting data set we apply the framework of McGrattan and Prescott (2005) to the Japanese economy in order to assess if Japanese stocks were priced correctly in the period after 1980. We find that the stock market tended to undervalue the fundamental value of installed capital. We also provide a new interpretation of Japanese stock market phenomena during the 'bubble period' and suggest that from a theoretical perspective, stock prices during the 'bubble period' were correctly valued. Changes in the reproducible cost of intangible capital play an important role in our new interpretation.

This paper examines empirically some of the reasons why Japanese manufacturing firms frequently fail to satisfy concavity conditions of the cost function. We focus on the 'bubble period' in the 1980s when land was in great demand for reasons related to both production and speculation, and land prices soared. By estimating the translog cost function with land as one of production inputs for manufacturing firms, we find that violation of concavity resulted from borrowing constraints and large adjustments of employment. We also demonstrate that elasticities of substitution between land and other inputs and input demand with respect to land rental prices are both estimated with large biases if the firms violating concavity are not excluded from the analysis.

After the burst of the bubble economy, Japanese economy has been changed drastically. Traditionally, Japanese economy was characterized as a bank-centered economy, but the banking system did not function well in the 1990's. Responding to banking problems, the Japanese government initiated the Financial Big Bang in 1996 to strength the capability of capital markets. Also, accounting and disclosure rules have been revised to make more credible and wider information available to market participants. If other things be constant, more extensive and timely disclosure should result in more accurate evaluation of firm's risks. However, there is a lack of research that investigates how effective current disclosure is in evaluating corporate risks. This lack of research is mainly because there are not appropriate data sets and methodology to be used for empirical tests. Fortunately, Morgan (2002) proposed a very useful method. That is, he used the disagreement between credit rating companies (i.e., Moody's and Standard and Poor's) over new issued bonds to measure the difficulty in evaluating firms' risks. In this paper, we follow Morgan (2002) and investigate whether credit rating companies likely agreed on the evaluation on Japanese firms' risks after the financial and accounting Big Bang. If there are still large disagreements among credit rating companies, this fact suggests that the current disclosure is not enough for outsiders to evaluate firms, or that there is an inherent limitation of disclosure usage. Also, we are interested in what sectors credit rating companies more often disagree on. Contrary to Morgan (2002), which pointed out that financial industries, such as banks and insurance companies, are difficult to evaluate, we failed to find that disagreements among credit rating companies over banks and insurance companies are larger than disagreements over other industries. However, consistent with Morgan (2002), we found that public utilities industry is easy to evaluate. This paper is organized as follows. In Section 2, we discuss the current Japanese economic situation and explain the accounting and disclosure reform. In Section 3, we explain data and methodology that are used in this paper. In Section 4, empirical results are provided. Section 5 concludes this paper.