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Puzzles in international macroeconomics

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Six major puzzles in international macroeconomics: ... Home bias in trade Saving-investment puzzle Equity home bias Consumption correlation puzzle Purchasing Power ... – PowerPoint PPT presentation

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Title: Puzzles in international macroeconomics


1
Puzzles in international macroeconomics
2
Six major puzzles in international
macroeconomics search for a common cause
  • Obsteld M. and K. Rogoff,  The Six Major Puzzles
    in International Macroeconomics Is There a
    Common Cause?, 2000, NBER Working paper 7777.
  • Home bias in trade
  • Saving-investment puzzle
  • Equity home bias
  • Consumption correlation puzzle
  • Purchasing Power Parity
  • Exchange rate disconnect

3
By explicitly introducing trade costs, one can go
far toward explaining a great number of the main
empirical puzzles.Trade costs may include
transportation costs, tariffs, non-tariff
barriers
4
Home bias in trade
  • International markets are more segmented then is
    commonly supposed
  • There is a substantial border effect that reduce
    cross-country trade
  • How big is the border effect? Can the market
    segmentation be explained by trade costs of the
    reasonable size?

5
How big is the border effect?
  • McCallum 1996, National Borders Matter Canada-US
    regional trade patterns, American Economic Review
    85, pp. 615-623

6
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7
Trade across individual Canadian provinces was
22 times higher then between individual Canadian
provinces and US states!
8
Is anything wrong with McCallums estimation of
the border effect
  • Asymmetric effect on countries of different size
  • Misspecification of the gravity equation
  • Anderson and Wincoop (2003), Gravities with
    Gravitas A solution to the Border puzzle,
    American Economic Review 93, pp. 170-192
  • National borders reduce trade between the US and
    Canada by about 44, while reducing trade among
    other industrialized countries by about 30.
    McCallum's spectacular headline number is the
    result of a combination of omitted variables bias
    and the small size of the Canadian economy.
    Within-Canada trade rises by a factor 6 due to
    the border. In contrast, within-US trade rises
    25.

9
Asymmetric effect on countries of different size
numerical example
  • With no trade barriers, Canada exports 90 of GDP
    to the US and sells 10 internally
  • Suppose the border effect reduces cross-border
    trade by 50
  • Then, Canada imports 45 of GDP to US and trade
    55 internally
  • So, internal trade went up by 5.5 times, cross
    border trade went down by 50, and so internal
    trade has increased by 11 times more then
    cross-border trade
  • For US, it used to import 10 of GDP and now
    imports 5. Cross-state trade has increased by
    2.1 times more then cross-border trade

10
Home bias in trade
  • Obstfeld, Rogoff 2000
  • Average size trade costs combined with high
    elasticities of substitution of home for foreign
    goods can account for large part of home bias
  • In addition, exchange rate uncertainty and
    difference in tastes across countries also leads
    to higher home good consumption

11
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12
Empirical estimates of ?
  • Trefler and Lai (1999) ?5.2
  • panel of 28 industries in 36 countries for the
    period 1972-1992
  • Cheung, Finn, and Fujji (1999) ?3.5-4
  • monopolistic competition model
  • two-digit industry level data for OECD countries
  • Hummels (1999a) ?5.6

13
Empirical estimates of trade costs
14
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15
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16
Saving-investment puzzle
  • Feldstein, Martin, and Charles Horioka (1980)
    Domestic Savings and International Capital
    Flows, Economic Journal 90 (358) June, 314-329.
  • Correlation between savings and investments in
    OECD countries is much greater then predicted by
    economic models

17
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18
Equity home bias
  • Equity home bias (Kenneth R. French James M.
    Poterba, (1991), Investor Diversification and
    International Equity Markets The American
    Economic Review, Vol. 81, No. 2.)
  • Economic agents prefer to keep their wealth in
    home assets. They diversify their portfolio less
    then predicted by models of risk-sharing and are
    overly optimistic about returns on home assets
  • At the end of the 80th, Americans held 94 percent
    of their wealth in the US stock market, whereas
    Japanese held 98 percent of their equity wealth
    at home

19
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20
Consumption correlation puzzle
  • Consumption correlation puzzle (Backus, Kehoe,
    and Kydland 1992, International Real Business
    Cycles, Journal of Political Economy 100, pp.
    745-775 )
  • International output growth rates are more highly
    correlated then consumption growth rates

21
Purchasing Power Parity
  • Purchasing Power Parity (Rogoff, Kenneth (1996),
    The Purchasing Power Parity Puzzle, Journal of
    Economic Literature, Vol.34, No. 2., pp.
    647-668.)
  • Does not hold in a short run, there are some
    evidence that it holds over the long horizon

22
Exchange rate disconnect
  • Exchange rate disconnect (Baxter, M and A.
    Stockman, 1989, Business Cycles and Exchange Rate
    regime some international evidence, Journal on
    Monetary Economics, 23, pp. 377-400)
  • Weak connection between exchange rates and
    virtually any macroeconomic aggregates
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