Terms of Trade and the Transmission of Output Shocks in a Rational Expectations Model
AbstractThis paper analyses the effects of productivity shocks on the current and future terms of trade and on output in a two country framework. An overlapping-generations model is used in which individuals allocate their savings between domestic and foreign capital assets according to their preferences for risk and return. Since production in both countries is specialized, changes its the terms of trade affect investment returns in both countries; rational expectations regarding such changes are assumed and a new approach to analyzing the comparative statics of rational expectations equilibria is developed. It is concluded that a temporary, positive productivity shock to the home country will cause the domestic terms of trade to depreciate initially and then to appreciate slowly back towards its trend level. The depreciation causes foreign output to fall below trend, and causes a symmetric rise in domestic output, via its effects on capital stocks. The impact of a permanent productivity shock differs, however. In this case investors will reallocate their portfolios and increase their holdings of domestic assets, which are expected to earn higher returns. If the portfolio shifts are strong enough, they cause the terms of trade to appreciate initially. Foreign output falls and domestic output rises in this case as well, this time because of the portfolio shifts towards domestic capital.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2681.
Date of creation: Aug 1988
Date of revision:
Note: ITI IFM
Contact details of provider:
Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
Web page: http://www.nber.org
More information through EDIRC
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.:
- Torsten Persson & Lars E.O. Svensson, 1983.
"Current Account Dynamics and the Terms of Trade: Harberger-Laursen-Metzler Two Generations Later,"
NBER Working Papers
1129, National Bureau of Economic Research, Inc.
- Persson, Torsten & Svensson, Lars E O, 1985. "Current Account Dynamics and the Terms of Trade: Harberger-Laursen-Metzler Two Generations Later," Journal of Political Economy, University of Chicago Press, vol. 93(1), pages 43-65, February.
- Gene M. Grossman & Assaf Razin, 1984.
"International Capital Movements Under Uncertainty,"
NBER Working Papers
1075, National Bureau of Economic Research, Inc.
- Baron, David P. & Forsythe, Robert., .
"Models of the Firm and International Trade Under Uncertainty,"
183, California Institute of Technology, Division of the Humanities and Social Sciences.
- Baron, David P & Forsythe, Robert, 1979. "Models of the Firm and International Trade under Uncertainty," American Economic Review, American Economic Association, vol. 69(4), pages 565-74, September.
- Aizenman, Joshua & Frenkel, Jacob A, 1985.
"Optimal Wage Indexation, Foreign Exchange Intervention, and Monetary Policy,"
American Economic Review,
American Economic Association, vol. 75(3), pages 402-23, June.
- Joshua Aizenman & Jacob A. Frenkel, 1985. "Optimal Wage Indexation, Foreign-Exchange Intervention and Monetary Policy," NBER Working Papers 1329, National Bureau of Economic Research, Inc.
- Stockman, Alan C. & Svensson, Lars E. O., 1987.
"Capital flows, investment, and exchange rates,"
Journal of Monetary Economics,
Elsevier, vol. 19(2), pages 171-201, March.
- Helpman, Elhanan & Razin, Assaf, 1978. "Uncertainty and International Trade in the Presence of Stock Markets," Review of Economic Studies, Wiley Blackwell, vol. 45(2), pages 239-50, June.
If references are entirely missing, you can add them using this form.