Discussion paper

DP10655 How Important Are Terms Of Trade Shocks?

According to conventional wisdom, terms of trade shocks represent a major source of business cycles in emerging and poor countries. This view is largely based on the analysis of calibrated business-cycle models. We argue that the view that emerges from empirical SVAR models is strikingly different. We estimate country-specific SVARs using data from 38 poor and emerging countries and find that terms-of-trade shocks explain only 10 percent of movements in aggregate activity. We then build a fully-fledged, open economy model with three sectors, importables, exportables, and nontradables, and use data from each of the 38 countries to obtain country-specific estimates of key structural parameters, including those defining the terms-of-trade process. In the estimated theoretical business-cycle models terms-of-trade shocks explain on average 30 percent of the variance of key macroeconomic indicators, three times as much as in SVAR models.


Uribe, M and S Schmitt-Grohé (2015), ‘DP10655 How Important Are Terms Of Trade Shocks?‘, CEPR Discussion Paper No. 10655. CEPR Press, Paris & London. https://cepr.org/publications/dp10655