Working Paper: CEPR ID: DP10775
Authors: Francesco Caselli; Miklós Koren; Milan Lisicky; Silvana Tenreyro
Abstract: A widely held view is that openness to international trade leads to higher GDP volatility, as trade increases specialization and hence exposure to sector-specific shocks. We revisit the common wisdom and argue that when country-wide shocks are important, openness to international trade can lower GDP volatility by reducing exposure to domestic shocks and allowing countries to diversify the sources of demand and supply across countries. Using a quantitative model of trade, we assess the importance of the two mechanisms (sectoral specialization and cross-country diversification) and provide a new answer to the question of whether and how international trade affects economic volatility.
Keywords: diversification; trade; volatility
JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| openness to international trade (F10) | lower GDP volatility (E20) |
| country-specific shocks (F69) | lower exposure to domestic shocks (F69) |
| lower exposure to domestic shocks (F69) | lower GDP volatility (E20) |
| trade (F19) | diversification of demand and supply sources (Q31) |
| diversification of demand and supply sources (Q31) | lower GDP volatility (E20) |
| decline in trade costs since the 1970s (F12) | reduced GDP volatility in two-thirds of countries (F62) |
| countrywide diversification through trade (F19) | lower volatility in 90% of countries (F69) |
| higher sectoral specialization (L52) | increased volatility (E32) |
| intrinsic volatility of sectors (G17) | effect on GDP volatility (E20) |
| covariance of sectoral shocks with countrywide shocks (F41) | effect on GDP volatility (E20) |