By David Cook and Nikhil Patel
http://d.repec.org/n?u=RePEc:bis:biswps:860&r=dge
Recent literature has highlighted that international trade is mostly priced in a few key vehicle currencies, and is increasingly dominated by intermediate goods and global value chains (GVCs). Taking these features into account, this paper reexamines the business cycle dynamics of international trade and its relationship with monetary policy and exchange rates. Using a three country dynamic stochastic general equilibrium (DSGE) framework, it finds key differences between the response of final goods and GVC trade to both internal and external shocks. In particular, the model shows that in response to a dollar appreciation triggered by a US interest rate increase, direct bilateral trade between non-US countries contracts more than global value chain oriented trade which feeds US final demand. We use granular data on GVC at the sector level to document empirical evidence in favor of this prediction.
Few people may appreciate that, but this papers brings back memories from my dissertation and shortly thereafter. Back then, I was working on international real business cycles and wrote separate papers on asymmetries (with a three-country model), exchange rate fluctuations, and the importance of intermediate goods. How things have evolved since, now papers integrate all three without difficulty! Nice!
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