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The Virtues of Flexibility: Import Dependence and External Shocks

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Author Info

  • Benjamin Dennis

    ()
    (Department of Economics, University of the Pacific)

  • Talan Iscan

    ()
    (Department of Economics, Dalhousie University)

Abstract

This paper considers how the structure of an open economy determines its flexibility in responding to external shocks. Inter- and intrasectoral reallocation of both expenditures and factors of production are shown to mitigate the consequences of a severe terms-of-trade shock. We demonstrate that the degree of flexibility resulting from these reallocative effects depends partly on intrasectoral differences (i.e., sectoral heterogeneity) in import dependence. The paper introduces sectoral heterogeneity by allowing the relative shares of labour and imported inputs used in production to differ across monopolistically competitive industries. Flexibility is shown to be reduced by: (i) low technological diversity, which constrains sectoral heterogeneity and hence the scope of factor reallocation, and (ii) high market power (i.e., low market competition), which curbs expenditure substitution across different consumption goods in the wake of a shock. The empirical implications of the model are demonstrated using sectoral data from Mexico.

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File URL: http://www.economics.dal.ca/RePEc/dal/wparch/eshocks.pdf
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Bibliographic Info

Paper provided by Dalhousie, Department of Economics in its series Department of Economics at Dalhousie University working papers archive with number eshocks.

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Length: 40 pages
Date of creation: 24 Aug 2000
Date of revision:
Handle: RePEc:dal:wparch:eshocks

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Related research

Keywords: open economy macroeconomics; heterogeneity; terms of trade; resource reallocation;

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References

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  1. Michael W. Klein & Scott Schuh & Robert K. Triest, 1999. "Job creation, job destruction, and the real exchange rate," Working Papers 99-11, Federal Reserve Bank of Boston.
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Cited by:
  1. Benjamin Dennis & Talan Iscan, 2002. "Terms of Trade Risk," Department of Economics at Dalhousie University working papers archive totrisk, Dalhousie, Department of Economics.

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