By Daniele Siena
The role of news shocks in international business cycles is first evaluated using a structural factor-augmented VAR model (FAVAR). An international FAVAR model is shown to be necessary to recover the correct news shocks in open economies, except the US, without incurring in the ‘non-fundamentalness’ problem. Then, a standard two-country, two-good real business cycle model, featuring news shocks, investment adjustment costs and variable wealth elasticity of the labor supply is used to match and explain the empirical evidence. News shocks are only marginal drivers of international business cycles synchronization.
There is plenty of literature, including some relayed on this blog, that shows that news shocks are important in explaining business cycles. Why that suddenly vanishes once you look at the international dimension is interesting. This is certainly not the first time in the history of studying business cycles that this happens. I wonder what the disturbing mechanism is this time.