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Working Paper
Measuring business cycles by saving for a rainy day
We propose a simple saving-based measure of the cyclical component in GDP. The measure is motivated by the prediction that the representative consumer changes savings in response to temporary deviations of income from its stochastic trend, while satisfying a present-value budget constraint. To evaluate our procedure, we employ the bivariate error correction model of Cochrane (1994) to the member countries of the G-7 and Australia. Our estimates reveal, that to a close approximation, the stochastic trend component of GDP is consumption and the transitory component is the error correction term, ...
Working Paper
Geographic barriers to commodity price integration: evidence from US cities and Swedish towns, 1732-1860
We study the role of distance and time in statistically explaining price dispersion for 14 commodities from 1732 to 1860. The prices are reported for US cities and Swedish market towns, so we can compare international and intranational dispersion. Distance and commodity-specific fixed effects explain a large share - roughly 60% - of the variability in a panel of more than 230,000 relative prices over these 128 years. There was a negative "ocean effect": international dispersion was less than would be predicted using distance, narrowing the effective ocean by more than 3000 km. Price ...
Working Paper
Accounting for persistence and volatility of good-level real exchange rates: the role of sticky information
Volatile and persistent real exchange rates are observed not only in aggregate series but also on the individual good level data. Kehoe and Midrigan (2007) recently showed that, under a standard assumption on nominal price stickiness, empirical frequencies of micro price adjustment cannot replicate the time-series properties of the law-of-one-price deviations. We extend their sticky price model by combining good specific price adjustment with information stickiness in the sense of Mankiw and Reis (2002). Under a reasonable assumption on the money growth process, we show that the model fully ...
Working Paper
Trends and cycles in small open economies: making the case for a general equilibrium approach
Economic research into the causes of business cycles in small open economies is almost always undertaken using a partial equilibrium model. This approach is characterized by two key assumptions. The first is that the world interest rate is unaffected by economic developments in the small open economy, an exogeneity assumption. The second assumption is that this exogenous interest rate combined with domestic productivity is sufficient to describe equilibrium choices. We demonstrate the failure of the second assumption by contrasting general and partial equilibrium approaches to the study of a ...
Discussion Paper
Business cycles and the asset structure of foreign trade
Since the primary role of international financial linkages is to facilitate consumption smoothing in the face of country-specific shocks, the degree of international financial integration should play an important role in the international transmission of business cycles. This paper therefore studies the business cycle implications of restricting international trade in financial assets. The key restriction is that domestic residents must hold all risky claims to domestic output, trading only noncontingent bonds on the international asset markets. We find that restricting asset trade may or may ...
Discussion Paper
Price deflation and real tariff rates: the United States, 1903 to 1940
This paper studies the time series and cross-sectional behavior of tariffs during the prewar period in a manner that recognizes their dual role: as an instrument of commercial policy and as an important source of government revenue. The fact that these objectives may be reinforcing or conflicting has made a critical difference in the choice of tariff rates across commodities and over time. Another interesting feature of prewar tariffs is that most import duties were specific, charging a nominal amount of domestic currency per physical unit imported. Existing historical accounts focus on dates ...
Working Paper
Distribution capital and the short- and long-run import demand elasticity
International business-cycle models assume that home and foreign goods are poor substitutes. International trade models assume they are close substitutes. This paper constructs a model where this discrepancy is due to frictions in distribution. Imports need to be combined with a local non-traded input, distribution capital, which is slow to adjust. As a result, imported and domestic goods appear as poor substitutes in the short run. In the long run this non-traded input can be reallocated, and quantities can shift following a change in relative prices. Thus the observed substitutability ...
Working Paper
Trends and cycles in small open economies: making the case for a general equilibrium approach
Economic research into the causes of business cycles in small open economies is almost always undertaken using a partial equilibrium model. This approach is characterized by two key assumptions. The first is that the world interest rate is unaffected by economic developments in the small open economy, an exogeneity assumption. The second assumption is that this exogenous interest rate combined with domestic productivity is sufficient to describe equilibrium choices. We demonstrate the failure of the second assumption by contrasting general and partial equilibrium approaches to the study of a ...
Working Paper
Accounting for real exchange rates using micro-data
The classical dichotomy predicts that all of the time series variance in the aggregate real exchange rate is accounted for by nontraded goods in the CPI basket because traded goods obey the Law of One Price. In stark contrast, Engel (1999) found that traded goods had comparable volatility to the aggregate real exchange. Our work reconciles these two views by successfully applying the classical dichotomy at the level of intermediate inputs into the production of final goods using highly disaggregated retail price data. Since the typical good found in the CPI basket is about equal parts traded ...
Working Paper
A model of international cities: implications for real exchange rates
We develop a model of cities each inhabited by two agents, one specializing in manufacturing, the other in retail distribution. The distribution sector represents the physical transformation of all internationally traded goods from the factory gate to the final consumer. Using a panel of micro-prices at the city level, we decompose the cross-sectional variance of long-run LOP deviations into the fraction due to distribution costs, trade costs and a residual. For the median good, trade costs account for 50 percent of the variance, distribution costs account for 10 percent with 40 percent of ...