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Trade integration and risk sharing

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  • Kraay, Aart
  • Ventura, Jaume

Abstract

What are the effects of increased trade in goods and services on the trade balance? We study the effects of reducing transport costs in a Ricardian model with complete asset markets. Trade integration has three effects on the structure of the economy: a reduction in the home bias in consumption, an increase in the degree of international competition in goods markets, and a reduction in real exchange rate volatility. The reduction in the home bias increases the volatility of the trade balance regardless of the source of shocks. Except for the case where supply shocks lead to counter-cyclical trade balances, (i) the increase in international competition also increases the volatility of the trade balance; and (ii) the reduction in real exchange rate volatility increases the volatility of the trade balance if risk aversion is low but lowers it if risk aversion is high. The opposite applies when supply shocks lead to counter-cyclical trade balances. We calibrate the model to U.S. data and provide a quantitative assessment of the effects of increased trade in services on the trade balance.

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Bibliographic Info

Article provided by Elsevier in its journal European Economic Review.

Volume (Year): 46 (2002)
Issue (Month): 6 (June)
Pages: 1023-1048

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Handle: RePEc:eee:eecrev:v:46:y:2002:i:6:p:1023-1048

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References

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  1. R. Dornbusch & S. Fischer & P. A. Samuelson, 1976. "Comparative Advantage, Trade and Payments in a Ricardian Model With a Continuum of Goods," Working papers 178, Massachusetts Institute of Technology (MIT), Department of Economics.
  2. Harrigan, James, 1999. "Estimation of cross-country differences in industry production functions," Journal of International Economics, Elsevier, vol. 47(2), pages 267-293, April.
  3. Harold L. Cole & Maurice Obstfeld, 1991. "Commodity Trade and International Risk Sharing: How Much Do Financial Markets Matter?," NBER Working Papers 3027, National Bureau of Economic Research, Inc.
  4. Robert J. Barro & Jong-Wha Lee, 2000. "International Data on Educational Attainment Updates and Implications," NBER Working Papers 7911, National Bureau of Economic Research, Inc.
  5. Baier, Scott L. & Bergstrand, Jeffrey H., 2001. "The growth of world trade: tariffs, transport costs, and income similarity," Journal of International Economics, Elsevier, vol. 53(1), pages 1-27, February.
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Cited by:
  1. Alexander Mihailov, 2004. "Effects of the exchange-rate regime on trade: the role of price setting," Money Macro and Finance (MMF) Research Group Conference 2003 66, Money Macro and Finance Research Group.
  2. Naknoi, Kanda, 2008. "Real exchange rate fluctuations, endogenous tradability and exchange rate regimes," Journal of Monetary Economics, Elsevier, vol. 55(3), pages 645-663, April.
  3. Broda, Christian, 2006. "Exchange rate regimes and national price levels," Journal of International Economics, Elsevier, vol. 70(1), pages 52-81, September.
  4. Christian Broda, 2002. "Uncertainty, exchange rate regimes, and national price levels," Staff Reports 151, Federal Reserve Bank of New York.
  5. Fabio Ghironi & Marc Melitz, 2004. "International Trade and Macroeconomic Dynamics with Heterogeneous Firms," 2004 Meeting Papers 451, Society for Economic Dynamics.
  6. Attilio Gardini & Giuseppe Cavaliere & Luca Fanelli, 2005. "Risk Sharing, avversione al rischio e stabilizzazione delle economie regionali in Italia," Rivista di Politica Economica, SIPI Spa, vol. 95(3), pages 219-266, May-June.
  7. Alexander Mihailov, 2004. "When and How Much Does a Peg Increase Trade? The Role of Trade Costs and Import Demand Elasticity under Monetary Uncertainty," Levine's Bibliography 122247000000000203, UCLA Department of Economics.
  8. Timothy J. Kehoe & Kim J. Ruhl, 2013. "How Important Is the New Goods Margin in International Trade?," Journal of Political Economy, University of Chicago Press, vol. 121(2), pages 358 - 392.
  9. Mathias Hoffmann, 2008. "The Lack of International Consumption Risk Sharing: Can Inflation Differentials and Trading Costs Help Explain the Puzzle?," Open Economies Review, Springer, vol. 19(2), pages 183-201, April.

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