Working Paper

Trade, investment, and international borrowing in two-country business cycle models

Abstract: Two country applications of equilibrium business cycle methodology have succeeded in matching some key features of international fluctuations. However, discrepancies between theory and data remain. This paper identifies a new anomaly related to a basic property of typical models: the prediction of countercyclical net exports is fundamentally related to (counterfactual) implication for negative cross-country investment correlations. Although the introduction of investment adjustment costs can reverse this anomaly, it has the side-effect of inducing the wrong cyclical behavior for net exports. Possible resolutions to this puzzle are considered, including asset market restrictions and the role of the substitution elasticities.

Keywords: Business cycles; International trade; Balance of trade;

Bibliographic Information

Provider: Federal Reserve Bank of St. Louis

Part of Series: Working Papers

Publication Date: 1997

Number: 1997-023