Working Paper: CEPR ID: DP7980
Authors: Andrea Raffo
Abstract: Understanding the joint dynamics of international prices and quantities remains a central issue in international business cycles. International relative prices appreciate when domestic consumption and output increase more than their foreign counterparts. In addition, both trade flows and trade prices display sizable volatility. This paper incorporates Hicks-neutral and investment-specific technology shocks into a standard two-country general equilibrium model with variable capacity utilization and weak wealth effects on labor supply. Investment-specific technology shocks introduce a source of fluctuations in absorption similar to taste shocks, thus reconciling theory and data. The paper also presents implications for the transmission mechanism of technology shocks across countries and for the Barro and King (1984) critique of investment shocks.
Keywords: Backus-Smith Puzzle; International Business Cycles; Investment-Specific Technology Shocks
JEL Codes: E32; F32; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Hicks-neutral and investment-specific technology shocks (O49) | fluctuations in domestic absorption (E20) |
| fluctuations in domestic absorption (E20) | international prices and trade flows (F14) |
| investment-specific technology shocks (O39) | domestic output (E23) |
| investment-specific technology shocks (O39) | domestic consumption (E20) |
| investment-specific technology shocks (O39) | international relative prices (F31) |
| increased production of intermediate goods (E23) | higher prices (D49) |
| higher prices (D49) | increased imports (F10) |
| increased imports (F10) | deteriorating trade balance (F14) |
| Hicks-neutral and investment-specific technology shocks (O49) | output and hours worked (J22) |