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Sudden Stops, Sectoral Reallocations, and the Real Exchange Rate

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Author Info
Timothy J. Kehoe
Kim J. Ruhl

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Abstract

A sudden stop of capital flows into a developing country tends to be followed by a rapid switch from trade deficits to surpluses, a depreciation of the real exchange rate, and decreases in output and total factor productivity. Substantial reallocation takes place from the nontraded sector to the traded sector. We construct a multisector growth model, calibrate it to the Mexican economy, and use it to analyze Mexico's 1994-95 crisis. When subjected to a sudden stop, the model accounts for the trade balance reversal and the real exchange rate depreciation, but it cannot account for the decreases in GDP and TFP. Extending the model to include labor frictions and variable capital utilization, we still find that it cannot quantitatively account for the dynamics of output and productivity without losing the ability to account for the movements of other variables.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 14395.

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Date of creation: Oct 2008
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Handle: RePEc:nbr:nberwo:14395

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Find related papers by JEL classification:
E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
F34 - International Economics - - International Finance - - - International Lending and Debt Problems
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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References listed on IDEAS
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. Enrique G. Mendoza, 2005. "Real Exchange Rate Volatility and the Price of Nontradables in Sudden-Stop-Prone Economies," NBER Working Papers 11691, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  2. Graciela L. Kaminsky & Carmen M. Reinhart, 1996. "The twin crises: the causes of banking and balance-of-payments problems," International Finance Discussion Papers 544, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
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  3. Timothy J. Kehoe & Edward C. Prescott, 2002. "Great Depressions of the Twentieth Century," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(1), pages 1-18, January. [Downloadable!] (restricted)
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  4. Ellen R. McGrattan & Edward C. Prescott, 2003. "Average Debt and Equity Returns: Puzzling?," American Economic Review, American Economic Association, vol. 93(2), pages 392-397, May. [Downloadable!]
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  5. Cook, David & Devereux, Michael B., 2006. "External currency pricing and the East Asian crisis," Journal of International Economics, Elsevier, vol. 69(1), pages 37-63, June. [Downloadable!] (restricted)
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  6. Ariel Burstein & Martin Eichenbaum & Sergio Rebelo, 2005. "Large Devaluations and the Real Exchange Rate," Journal of Political Economy, University of Chicago Press, vol. 113(4), pages 742-784, August.
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  7. Felipe Meza, 2008. "Financial Crisis, Fiscal Policy, and the 1995 GDP Contraction in Mexico," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 40(6), pages 1239-1261, 09. [Downloadable!] (restricted)
  8. de Cordoba, Gonzalo Fernandez & Kehoe, Timothy J., 2000. "Capital flows and real exchange rate fluctuations following Spain's entry into the European Community," Journal of International Economics, Elsevier, vol. 51(1), pages 49-78, June. [Downloadable!] (restricted)
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  10. Enrique G. Mendoza & Katherine A. Smith, 2004. "Quantitative Implication of A Debt-Deflation Theory of Sudden Stops and Asset Prices," NBER Working Papers 10940, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  11. Enrique G. Mendoza, 2006. "Endogenous Sudden Stops in a Business Cycle Model with Collateral Constraints:A Fisherian Deflation of Tobin's Q," NBER Working Papers 12564, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  13. Juan Carlos Conesa & Timothy J. Kehoe & Kim J. Ruhl, 2007. "Modeling Great Depressions: The Depression in Finland in the 1990s," NBER Working Papers 13591, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  14. Alan C. Stockman & Linda L. Tesar, 1995. "Tastes and Technology in a Two-Country Model of the Business Cycle: Explaining International Comovements," NBER Working Papers 3566, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  15. Greenwood, Jeremy & Hercowitz, Zvi & Huffman, Gregory W, 1988. "Investment, Capacity Utilization, and the Real Business Cycle," American Economic Review, American Economic Association, vol. 78(3), pages 402-17, June. [Downloadable!] (restricted)
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  17. Timothy J. Kehoe & Kim J. Ruhl, 2008. "Are Shocks to the Terms of Trade Shocks to Productivity?," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(4), pages 804-819, October. [Downloadable!] (restricted)
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  18. Patrick J. Kehoe & Timothy J. Kehoe, 1994. "A primer on static applied general equilibrium models," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Spr, pages 2-16. [Downloadable!]
  19. Rudolfs Bems, 2008. "Aggregate Investment Expenditures on Tradable and Nontradable Goods," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(4), pages 852-883, October. [Downloadable!] (restricted)
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  20. Harold L. Cole & Lee E. Ohanian, 1999. "The Great Depression in the United States from a neoclassical perspective," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 2-24. [Downloadable!]
  21. Martin Schneider & Aaron Tornell, 2004. "Balance Sheet Effects, Bailout Guarantees and Financial Crises," Review of Economic Studies, Blackwell Publishing, vol. 71, pages 883-913, 07. [Downloadable!] (restricted)
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  22. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-61, September. [Downloadable!] (restricted)
  23. repec:bep:macadv:v:7:y:2007:i:1:p:1593-1593 is not listed on IDEAS
  24. Sargent, Thomas J, 1978. "Estimation of Dynamic Labor Demand Schedules under Rational Expectations," Journal of Political Economy, University of Chicago Press, vol. 86(6), pages 1009-44, December. [Downloadable!] (restricted)
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  25. Mendoza, Enrique G., 2000. "On the Instability of Variance Decompositions of the Real Exchange Rate Across Exchange- Rate-Regimes: Evidence from Mexico and the United States," Working Papers 00-05, Duke University, Department of Economics. [Downloadable!]
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  26. Neumeyer, Pablo A. & Perri, Fabrizio, 2005. "Business cycles in emerging economies: the role of interest rates," Journal of Monetary Economics, Elsevier, vol. 52(2), pages 345-380, March. [Downloadable!] (restricted)
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  27. Raphael Bergoeing & Patrick J. Kehoe & Timothy J. Kehoe & Raimundo Soto, 2001. "A Decade Lost and Found: Mexico and Chile in the 1980s," NBER Working Papers 8520, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  28. Fumio Hayashi & Edward C. Prescott, 2002. "The 1990s in Japan: A Lost Decade," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 5(1), pages 206-235, January. [Downloadable!] (restricted)
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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. Konstantinos Angelopoulos & George Economides & Vangelis Vassilatos, 2008. "Do institutions matter for economic fluctuations? Weak property rights in a business cycle model for Mexico," Working Papers 2008_38, Department of Economics, University of Glasgow. [Downloadable!]
    Other versions:
  2. Timothy J. Kehoe & Kim J. Ruhl, 2007. "Are shocks to the terms of trade shocks to productivity?," Staff Report 391, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  3. Trejos, Alberto & Ferreira, Pedro Cavalcanti Gomes, 2008. "Trade in intermediate goods and total factor productivity," Economics Working Papers (Ensaios Economicos da EPGE) 676, Graduate School of Economics, Getulio Vargas Foundation (Brazil). [Downloadable!]
  4. Ippei Fujiwara & Keisuke Otsu & Masashi Saito, 2008. "The Global Impact of Chinese Growth," IMES Discussion Paper Series 08-E-22, Institute for Monetary and Economic Studies, Bank of Japan. [Downloadable!]
  5. Benjamin, David M. & Meza, Felipe, . "Total Factor Productivity and Labor Reallocation: The Case of the 1997 Korea Crisis," Discussion Paper Series In Economics And Econometrics 0701, Economics Division, School of Social Sciences, University of Southampton. [Downloadable!]
  6. Almira Buzaushina & Michael Brei, 2009. "Matching International Financial Shocks in Emerging Markets," Bonn Econ Discussion Papers bgse2_2009, University of Bonn, Germany. [Downloadable!]
  7. Ruy Lama, 2009. "Accounting for Output Drops in Latin America," IMF Working Papers 09/67, International Monetary Fund. [Downloadable!]
  8. Rudolfs Bems, 2008. "Aggregate Investment Expenditures on Tradable and Nontradable Goods," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(4), pages 852-883, October. [Downloadable!] (restricted)
    Other versions:
  9. Felipe Meza & Antonio Carlos Urrutia, 2008. "Great Appreciations: Accounting for the Real Exchange Rate in Mexico, 1988-2002," Working Papers 0807, Centro de Investigacion Economica, ITAM. [Downloadable!]
  10. Keisuke Otsu, 2008. "A Neoclassical Analysis of The Korean Crisis," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(2), pages 449-471, April. [Downloadable!] (restricted)
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