DP8574 Medium Term Business Cycles in Developing Countries

Author(s): Diego Comin, Norman Loayza, Farooq Pasha, Luis Servén
Publication Date: September 2011
Keyword(s): business cycles in developing countries, co-movement between developed and developing economies, extensive margin of trade, FDI, product life cycle, volatility
JEL(s): E3, O3
Programme Areas: International Macroeconomics, International Trade and Regional Economics, Development Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=8574

Business cycle fluctuations in developed economies (N) tend to have large and persistent effects on developing countries (S). We study the transmission of business cycle fluctuations for developed to developing economies with a two-country asymmetric DSGE model with two features: (i) endogenous and slow diffusion of technologies from the developed to the developing country, and (ii) adjustment costs to investment flows. Consistent with the model we observe that the flow of technologies from N to S co-moves positively with output in both N and S. After calibrating the model to Mexico and the U.S., it can explain the following stylized facts: (i) U.S. and Mexican output co-move more than consumption; (ii) U.S. shocks have a larger effect on Mexico than in the U.S.; (iii) U.S. business cycles lead over medium term fluctuations in Mexico; (iv) Mexican consumption is more volatile than output.