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International Trade and Aggregate Fluctuations in Granular Economies

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  • Andrei A. Levchenko

    (University of Michigan)

  • Julian di Giovanni

    (IMF)

Abstract

This paper proposes a new channel through which international trade affects macroeconomic volatility. We study a multi-country model with heterogeneous firms that are subject to idiosyncratic firm-specific shocks. When the distribution of firm sizes follows a power law with exponent sufficiently close to −1, the idiosyncratic shocks to large firms have an impact on aggregate volatility. Opening to trade increases the importance of large firms to the economy, thus raising macroeconomic volatility. We next explore the quantitative properties of the model calibrated to data for the 50 largest economies in the world. Our simulation exercise shows that the contribution of trade to aggregate fluctuations depends strongly on country size: in an economy such as the U.S., that accounts for one-third of world GDP, international trade increases volatility by about 3.5%. By contrast, trade increases aggregate volatility by some 30% in a small open economy, such as Belgium or Poland. The model performs well in matching the elasticity of macroeconomic volatility with respect to country size observed in cross-country data.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2009 Meeting Papers with number 491.

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Date of creation: 2009
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Handle: RePEc:red:sed009:491

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  1. Muge Adalet, 2009. "Multi-Product Exporters and Product Turnover Behaviour of New Zealand Exporters," Treasury Working Paper Series 09/01, New Zealand Treasury.
  2. Andrew B. Bernard & J. Bradford Jensen & Peter K. Schott, 2003. "Falling Trade Costs, Heterogeneous Firms, and Industry Dynamics," Yale School of Management Working Papers ysm357, Yale School of Management.
  3. Costas Arkolakis, 2008. "Market Penetration Costs and the New Consumers Margin in International Trade," NBER Working Papers 14214, National Bureau of Economic Research, Inc.
  4. George Alessandria & Horag Choi, 2007. "Do Sunk Costs of Exporting Matter for Net Export Dynamics?," The Quarterly Journal of Economics, MIT Press, vol. 122(1), pages 289-336, 02.
  5. Andrei A. Levchenko & Julian di Giovanni, 2008. "Trade Openness and Volatility," IMF Working Papers 08/146, International Monetary Fund.
  6. Gatti, Domenico Delli & Guilmi, Corrado Di & Gaffeo, Edoardo & Giulioni, Gianfranco & Gallegati, Mauro & Palestrini, Antonio, 2005. "A new approach to business fluctuations: heterogeneous interacting agents, scaling laws and financial fragility," Journal of Economic Behavior & Organization, Elsevier, vol. 56(4), pages 489-512, April.
  7. Xavier Gabaix, 2011. "The Granular Origins of Aggregate Fluctuations," Econometrica, Econometric Society, vol. 79(3), pages 733-772, 05.
  8. Stephane Pallage & Michel A. Robe, 2003. "On the Welfare Cost of Economic Fluctuations in Developing Countries," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 44(2), pages 677-698, 05.
  9. Canning, D. & Amaral, L. A. N. & Lee, Y. & Meyer, M. & Stanley, H. E., 1998. "Scaling the volatility of GDP growth rates," Economics Letters, Elsevier, vol. 60(3), pages 335-341, September.
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