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International Trade and Aggregate Fluctuations in Granular Economies

  • Andrei A. Levchenko

    (University of Michigan)

  • Julian di Giovanni

    (IMF)

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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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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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

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  1. Xavier Gabaix, 2005. "The Granular Origins of Aggregate Fluctuations," 2005 Meeting Papers 470, Society for Economic Dynamics.
  2. 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.
  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. Dani Rodrik, 1997. "Has Globalization Gone Too Far?," Peterson Institute Press: All Books, Peterson Institute for International Economics, number 57, January.
  5. Claudia Canals & Xavier Gabaix & Josep M. Vilarrubia & David Weinstein, 2007. "Trade patterns, trade balances and idiosyncratic shocks," Working Papers 0721, Banco de España;Working Papers Homepage.
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