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Globalization, aggregate productivity, and inflation

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  • W. Michael Cox
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    Abstract

    This paper investigates the effects of globalization on aggregate productivity, output growth, and inflation. I present a simple two-country, two-good, flexible exchange rate model using Fisher Ideal aggregators to examine changes in the mapping from microeconomic to macroeconomic productivity growth as nations globalize. Advances in industry-specific labor productivity are shown to have potentially a much greater pass-through to aggregate productivity, output, and prices the more open nations are to trade. Globalization raises both the level and growth rate of aggregate productivity by allowing more economywide reorganization in response to ongoing technological advances than would be optimal otherwise. ; I develop a globalized version of the quantity equation of money, where inflation in the home country depends on domestic money growth and a weighted average of home and foreign GDP growth. Relative country size, consumer preferences, production technologies, and the openness of trade are the chief determinants of these weights. Calibrating the model to match certain stylized facts about the U.S. and global economies, U.S. consumer price inflation falls from roughly 3.8 percent when economies are closed to under 2 percent in the transition period, eventually settling at around 2.3 percent in free trade. Producer and consumer prices trek a common path under autarky but diverge as the world globalizes. Both home and foreign aggregate productivity growth rates increase—by 0.4 and 0.7 percentage points, respectively. Roughly 30 percent of the output weight in the determination of home inflation shifts from the home to the foreign economy—greater than might be expected from strong home bias.

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    File URL: http://www.dallasfed.org/assets/documents/research/staff/staff0701.pdf
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    Bibliographic Info

    Article provided by Federal Reserve Bank of Dallas in its journal Staff Papers.

    Volume (Year): (2007)
    Issue (Month): Mar ()
    Pages:

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    Handle: RePEc:fip:feddst:y:2007:i:mar:n:1

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    Keywords: Globalization ; Inflation (Finance) ; Microeconomics ; Macroeconomics ; Gross domestic product;

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    1. David Romer, 1991. "Openness and inflation: theory and evidence," Proceedings, Federal Reserve Bank of San Francisco, issue Nov.
    2. Lane, Philip R., 1997. "Inflation in open economies," Journal of International Economics, Elsevier, vol. 42(3-4), pages 327-347, May.
    3. Loungani, Prakash & Razin, Assaf, 2005. "Globalization and Disinflation: The Efficiency Channel," CEPR Discussion Papers 4895, C.E.P.R. Discussion Papers.
    4. Gene M. Grossman & Esteban Rossi-Hansberg, 2008. "Trading Tasks: A Simple Theory of Offshoring," American Economic Review, American Economic Association, vol. 98(5), pages 1978-97, December.
    5. Cox, W. Michael, 1980. "Unanticipated money, output, and prices in the small economy," Journal of Monetary Economics, Elsevier, vol. 6(3), pages 359-384, July.
    6. Paul Romer, 1991. "Endogenous Technological Change," NBER Working Papers 3210, National Bureau of Economic Research, Inc.
    7. Douglas Gollin, 2001. "Getting Income Shares Right," Department of Economics Working Papers 2001-11, Department of Economics, Williams College.
    8. David Backus & Patrick J. Kehoe & Finn E. Kydland, 1993. "International Business Cycles: Theory and Evidence," NBER Working Papers 4493, National Bureau of Economic Research, Inc.
    9. David T. Coe & Elhanan Helpman, 1995. "International R&D Spillovers," NBER Working Papers 4444, National Bureau of Economic Research, Inc.
    10. W. Erwin Diewert, 1998. "Index Number Issues in the Consumer Price Index," Journal of Economic Perspectives, American Economic Association, vol. 12(1), pages 47-58, Winter.
    11. Chen, Natalie & Imbs, Jean & Scott, Andrew, 2004. "Competition, Globalization and the Decline of Inflation," CEPR Discussion Papers 4695, C.E.P.R. Discussion Papers.
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