IDEAS home Printed from https://ideas.repec.org/p/red/sed006/808.html
   My bibliography  Save this paper

Distribution Costs and International Business Cycles

Author

Listed:
  • P. Marcelo Oviedo
  • Rajesh Singh

    () (Economics Iowa State University)

Abstract

Backus, Kehoe, and Kydland (International Real Business Cycles, JPE, 100(4),1992) documented several discrepancies between the observed post-war business cycles of developed countries and the predictions of a two-country, complete-market model. The main discrepancy termed as the “quantity anomaly†that cross-country consumption correlations are higher than that of output in the model as opposed to data, has remained a central puzzle in international economics. In order to resolve this puzzle mainly two strategies: restrictions on asset trade, and introducing non-traded goods in the model, have been employed by researchers. While these extensions have been successful in closing the gap to some extent, the ordering of correlations has stayed unchanged: consumption correlations still exceed that of output. This paper attempts to resolve the quantity puzzle by introducing non-traded distribution costs in the retailing of traded goods. In a standard two-good model traded output and traded consumption, by definition, are identical goods. With distribution costs, traded output and consumption are two distinct entities as each unit of final traded consumption good incorporates a unit of traded good and a fixed amount of non-traded goods. Thus, effectively, the model with distribution costs can be viewed as a model without distribution costs but with a modified utility function that has a substantially stronger complementarity between traded and non-traded goods. In a simple two-good extension of the Backus, Kehoe, and Kydland model, it is shown that the cross-country consumption and output correlations are 0.55 and 0.30, respectively, whereas with distribution costs consumption correlation reduces to 0.09, output correlation to 0.23. Incorporating distribution costs, in addition, improves the model’s performance in matching the volatility of real exchange rates and the correlation of net exports with output. These improvements are achieved without sacrificing the model's performance in any other dimension.

Suggested Citation

  • P. Marcelo Oviedo & Rajesh Singh, 2006. "Distribution Costs and International Business Cycles," 2006 Meeting Papers 808, Society for Economic Dynamics.
  • Handle: RePEc:red:sed006:808
    as

    Download full text from publisher

    File URL: http://www.econ.iastate.edu/faculty/singh/WorkingPapers/IBCWDC.pdf
    File Function: main text
    Download Restriction: no

    References listed on IDEAS

    as
    1. Heathcote, Jonathan & Perri, Fabrizio, 2002. "Financial autarky and international business cycles," Journal of Monetary Economics, Elsevier, vol. 49(3), pages 601-627, April.
    2. Stockman, Alan C & Tesar, Linda L, 1995. "Tastes and Technology in a Two-Country Model of the Business Cycle: Explaining International Comovements," American Economic Review, American Economic Association, vol. 85(1), pages 168-185, March.
    3. Burstein, Ariel & Kurz, Christopher & Tesar, Linda, 2008. "Trade, production sharing, and the international transmission of business cycles," Journal of Monetary Economics, Elsevier, vol. 55(4), pages 775-795, May.
    4. Ambler, Steve & Cardia, Emanuela & Zimmermann, Christian, 2002. "International transmission of the business cycle in a multi-sector model," European Economic Review, Elsevier, vol. 46(2), pages 273-300, February.
    5. Lucas, Robert Jr., 1982. "Interest rates and currency prices in a two-country world," Journal of Monetary Economics, Elsevier, vol. 10(3), pages 335-359.
    6. Baxter, Marianne & Crucini, Mario J, 1995. "Business Cycles and the Asset Structure of Foreign Trade," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 36(4), pages 821-854, November.
    7. Burstein, Ariel T. & Neves, Joao C. & Rebelo, Sergio, 2003. "Distribution costs and real exchange rate dynamics during exchange-rate-based stabilizations," Journal of Monetary Economics, Elsevier, vol. 50(6), pages 1189-1214, September.
    8. Patrick J. Kehoe & Fabrizio Perri, 2002. "International Business Cycles with Endogenous Incomplete Markets," Econometrica, Econometric Society, vol. 70(3), pages 907-928, May.
    9. Backus, David K & Kehoe, Patrick J & Kydland, Finn E, 1992. "International Real Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 100(4), pages 745-775, August.
    10. Corsetti, Giancarlo & Dedola, Luca, 2005. "A macroeconomic model of international price discrimination," Journal of International Economics, Elsevier, vol. 67(1), pages 129-155, September.
    11. Kydland, Finn E & Prescott, Edward C, 1982. "Time to Build and Aggregate Fluctuations," Econometrica, Econometric Society, vol. 50(6), pages 1345-1370, November.
    12. Kollmann, Robert, 1996. "Incomplete asset markets and the cross-country consumption correlation puzzle," Journal of Economic Dynamics and Control, Elsevier, vol. 20(5), pages 945-961, May.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Christoph Thoenissen, 2006. "Real Exchange Rate Volatility and Asset Market Structure," CDMA Working Paper Series 200609, Centre for Dynamic Macroeconomic Analysis, revised 15 Oct 2006.

    More about this item

    Keywords

    open economy business cycles; quantity puzzle; distribution costs;

    JEL classification:

    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:red:sed006:808. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Christian Zimmermann). General contact details of provider: http://edirc.repec.org/data/sedddea.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.