Long-Run Trade Elasticity and the Trade-Comovement Puzzle

Drozd, Lukasz A.; Kolbin, Sergey; Nosal, Jaromir B.

Working Paper

Long-Run Trade Elasticity and the Trade-Comovement Puzzle

Abstract: We show that the trade-comovement puzzle - theory's failure to account for the positive relation between trade and business cycle synchronization - is intimately related to its counterfactual implication that short- and long-run trade elasticities are equal. Based on this insight, we show that modeling the disconnect between the low short- and the high long-run trade elasticity in consistency with the data is promising in resolving the puzzle. In a broader context, our findings are relevant for analyzing business cycle transmission in a large class of models and caution against the use of static elasticity models in cross-country studies.

Keywords: trade-comovement puzzle; elasticity puzzle; international business cycle synchronization;

JEL Classification: E32; F31;