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Financial Autarky and International Business Cycles

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  • Heathcote, Jonathan

    (Dept. of Economics, Stockholm School of Economics)

  • Perri, Fabrizio

    (Stern School of Business)

Abstract

We present a two-country, two-good model in which there do not exist any markets for international trade in financial assets. We compare the predictions of this model to those of two other models, one in which markets are complete and a second in which a single non-contingent bond is traded. We find that only the financial autarky model can generate volatility in the terms of trade similar to that in data for floating rate period and, at the same time, account for observed cross-country output, consumption, investment and employment correlations. We interpret our findings as evidence that the extent of international borrowing and lending opportunities is important for the international business cycle.

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Bibliographic Info

Paper provided by Stockholm School of Economics in its series Working Paper Series in Economics and Finance with number 320.

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Length: 29 pages
Date of creation: 19 May 1999
Date of revision: 30 Apr 2000
Handle: RePEc:hhs:hastef:0320

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Keywords: International business cycles; incomplete markets.;

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References

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  1. Chari, V V & Kehoe, Patrick J & McGrattan, Ellen R, 2002. "Can Sticky Price Models Generate Volatile and Persistent Real Exchange Rates?," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 69(3), pages 533-63, July.
  2. Baxter, M. & Crucini, M., 1991. "Business Cycles and the Asset Structure of Foreign Trade," RCER Working Papers 316, University of Rochester - Center for Economic Research (RCER).
  3. Baxter, M., 1994. "International Trade and Business Cycles," RCER Working Papers 390, University of Rochester - Center for Economic Research (RCER).
  4. David K. Backus & Mario J. Crucini, 1998. "Oil Prices and the Terms of Trade," NBER Working Papers 6697, National Bureau of Economic Research, Inc.
  5. Harold L. Cole & Maurice Obstfeld, 1989. "Commodity Trade and International Risk Sharing: How Much Do Financial Markets Matter?," NBER Working Papers 3027, National Bureau of Economic Research, Inc.
  6. Alan C. Stockman & Linda L. Tesar, 1991. "Tastes and technology in a two-country model of the business cycle: explaining international co-movements," Working Paper, Federal Reserve Bank of Cleveland 9019, Federal Reserve Bank of Cleveland.
  7. Michael P. Leahy, 1998. "New summary measures of the foreign exchange value of the dollar," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), Board of Governors of the Federal Reserve System (U.S.), issue Oct, pages 811-818.
  8. Michael R. Pakko, 1996. "International risk sharing and low cross-country consumption correlations: are they really inconsistent?," Working Papers, Federal Reserve Bank of St. Louis 1994-019, Federal Reserve Bank of St. Louis.
  9. Harold L. Cole, 1993. "The macroeconomic effects of world trade in financial assets," Quarterly Review, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Sum, pages 12-21.
  10. David Backus & Patrick J. Kehoe & Finn E. Kydland, 1992. "Dynamics of the Trade Balance and the Terms of Trade: The S-Curve," NBER Working Papers 4242, National Bureau of Economic Research, Inc.
  11. Patrick J. Kehoe & Fabrizio Perri, 2002. "International Business Cycles with Endogenous Incomplete Markets," Econometrica, Econometric Society, Econometric Society, vol. 70(3), pages 907-928, May.
  12. Baxter, Marianne, 1995. "International trade and business cycles," Handbook of International Economics, Elsevier, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 35, pages 1801-1864 Elsevier.
  13. Kollmann, Robert, 1996. "Incomplete asset markets and the cross-country consumption correlation puzzle," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 20(5), pages 945-961, May.
  14. Michael R. Pakko, 1994. "Characterizing cross-country consumption correlations," Working Papers, Federal Reserve Bank of St. Louis 1994-026, Federal Reserve Bank of St. Louis.
  15. Arvanitis, Athanasios V & Mikkola, Anne, 1996. "Asset-Market Structure and International Trade Dynamics," American Economic Review, American Economic Association, American Economic Association, vol. 86(2), pages 67-70, May.
  16. Lewis, Karen K, 1996. "What Can Explain the Apparent Lack of International Consumption Risk Sharing?," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 104(2), pages 267-97, April.
  17. John Whalley, 1984. "Trade Liberalization among Major World Trading Areas," MIT Press Books, The MIT Press, The MIT Press, edition 1, volume 1, number 0262231204, December.
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