Working Paper: NBER ID: w18569
Authors: Luis Felipe Céspedes; Andrés Velasco
Abstract: Fluctuations in commodity prices are often associated with macroeconomic volatility. But not all nations are created equal in this regard. The macro response to commodity booms and busts depends both on the structural characteristics of the economy and on the policy framework that is in place. In this paper we investigate the macro response of a group of commodity-producing nations in episodes of large commodity prices shocks. First we provide a theoretical framework to analyze how shocks to commodity prices affect the domestic economy. For this we use a simple open-economy model with nominal rigidities and financial frictions. Then we provide empirical evidence (using commodity price boom and bust episodes) that commodity price shocks have a significant impact on output and investment dynamics. Economies with more flexible exchange rate regimes exhibit less pronounced responses of output during these episodes. We also provide evidence that the impact of those shocks on investment tends to be larger for economies with less developed financial markets. Moreover, we find that international reserve accumulation, more stable political systems, and less open capital accounts tend to reduce the real exchange rate appreciation (depreciation) in episodes of commodity price booms (busts).
Keywords: Commodity Price Shocks; Macroeconomic Volatility; Exchange Rate Regimes; Financial Development
JEL Codes: E52; E58; F31; F32; F36; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Commodity price shocks (Q02) | output (C67) |
| Commodity price shocks (Q02) | investment (G31) |
| Less developed financial markets (G19) | larger impact of commodity price shocks on investment (F69) |
| Accumulation of international reserves (F32) | real exchange rate appreciation (F31) |
| Political stability (P16) | real exchange rate during commodity price shocks (F31) |
| Flexible exchange rate regimes (F33) | output response during commodity price shocks (Q02) |