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Productivity, external balance and exchange rates: evidence on the transmission mechanism among G7 countries

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Author Info
Giancarlo Corsetti
Luca Dedola
Sylvain Leduc

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Abstract

This paper investigates the international transmission of productivity shocks in a sample of five G7 countries. For each country, using long-run restrictions, we identify shocks that increase permanently domestic labor productivity in manufacturing (our measure of tradables) relative to an aggregate of other industrial countries including the rest of the G7. We find that, consistent with standard theory, these shocks raise relative consumption, deteriorate net exports, and raise the relative price of nontradables - in full accord with the Harrod-Balassa-Samuelson hypothesis. Moreover, the deterioration of the external account is fairly persistent, especially for the US. The response of the real exchange rate and (our proxy for) the terms of trade differs across countries: while both relative prices depreciate in Italy and the UK (smaller and more open economies), they appreciate in the US and Japan (the largest and least open economies in our sample); results are however inconclusive for Germany. These findings question a common view in the literature, that a country's terms of trade fall when its output grows, thus providing a mechanism to contain di¤erences in national wealth when productivity levels do not converge. They enhance our understanding of important episodes such as the strong real appreciation of the dollar as the US productivity growth accelerated in the second half of the 1990s. They also provide an empirical contribution to the current debate on the adjustment of the US current account position. Contrary to widespread presumptions, productivity growthin the US tradable sector does not necessarily improve the US trade deficit, nor deteriorate the US terms of trade, at least in the short and medium run.

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Paper provided by European University Institute in its series Economics Working Papers with number ECO2006/39.

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Date of creation: 2006
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Handle: RePEc:eui:euiwps:eco2006/39

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Related research
Keywords: International transmission mechanism; net exports; terms of trade; real exchange rates; VAR; long-run restrictions; US current account;

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Find related papers by JEL classification:
F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission

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References listed on IDEAS
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Fabrizio Perri & Jonathan Heathcote, 2007. "The International Diversification Puzzle Is Not as Bad as You Think," Working Papers 2007-3, University of Minnesota, Department of Economics, revised 08 Oct 2007. [Downloadable!]
    Other versions:
  2. Giancarlo Corsetti & Luca Dedola & Sylvain Leduc, 2007. "Productivity and the dollar," Working Paper Series 2007-27, Federal Reserve Bank of San Francisco. [Downloadable!]
  3. Marcel Fratzscher & Luciana Juvenal & Lucio Sarno, 2007. "Asset prices, exchange rates and the current account," Working Paper Series 790, European Central Bank. [Downloadable!]
    Other versions:
  4. Bems, Rudolfs & Dedola, Luca & Smets, Frank, 2007. "US Imbalances: The Role of Technology and Policy," CEPR Discussion Papers 6110, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  5. P. Jacob & G. Peersman, 2008. "Dissecting the Dynamics of the US Trade Balance in an Estimated Equilibrium Model," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 08/544, Ghent University, Faculty of Economics and Business Administration. [Downloadable!]
  6. Zeno Enders & Gernot J. Müller & Almut Scholl, 2008. "How do Fiscal and Technology Shocks affect Real Exchange Rates? New Evidence for the United States," CFS Working Paper Series 2008/22, Center for Financial Studies. [Downloadable!]
  7. Christoph Thoenissen, 2008. " Exchange rate dynamics, asset market structure and the role of the trade elasticity," CDMA Working Paper Series 0803, Centre for Dynamic Macroeconomic Analysis. [Downloadable!]
  8. Vahagn Galstyan, 2007. "Country Size and the Transfer Effect," The Institute for International Integration Studies Discussion Paper Series iiisdp204, IIIS. [Downloadable!]
  9. Zeno Enders & Gernot J. Mueller, 2006. "S-Curve Redux: On the International Transmission of Technology Shocks," Economics Working Papers ECO2006/36, European University Institute. [Downloadable!]
  10. Ippei Fujiwara & nd Naohisa Hirakata, 2007. "Dynamic Aspects of Productivity Spillovers, Terms of Trade and The "Home Market Effects"," IMES Discussion Paper Series 07-E-07, Institute for Monetary and Economic Studies, Bank of Japan. [Downloadable!]
  11. Marcel Fratzscher, 2007. "US shocks and global exchange rate configurations," Working Paper Series 835, European Central Bank. [Downloadable!]
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