The Anatomy of Small Open Economy Productivity Trends

Christoph Görtz, Konstantinos Theodoridis and Christoph Thoenissen

No 2023015, Working Papers from The University of Sheffield, Department of Economics

Abstract: We estimate a novel empirical (state-space) model to study the effects of international and domes- tic technology trend shocks on the UK economy. We jointly identify anticipated and unanticipated domestic and international technological innovations arising from changes in total factor productivity (TFP) and investment specific technology (IST). The long-run restrictions used to jointly identify the structural trends in the data are informed by a standard two-country structural model. Our results point to large and persistent swings in productivity. International non-stationary TFP and IST shocks explain about 30% and 24% of the variance of UK GDP, respectively. UK-specific TFP and IST shocks are somewhat less important, but still a relevant factor. Notably, it is the anticipated components of these international and domestic productivity shocks, rather than their unanticipated counterparts, which account for the bulk of the volatility in the data. We dissect the historical role of different shocks as drivers of UK labor productivity growth. We find that a decline in the contribution of international IST shocks, combined with weak domestic TFP growth, can explain the widely documented slowdown in UK labor productivity after the financial crisis. A standard two-country model implies widely-used restrictions on the relative price of investment which we find to be inconsistent with our empirical evidence that relies on a minimum of structure. We show that a two-sector version of this model with adjustment cost in investment and costly sectoral labor reallocation can capture the empirical dynamics.

Keywords: International Transmission of Productivity Shocks; Total Factor Productivity; Investment Specific Technology; Small Open Economy Dynamics; News Shocks; State Space Model (search for similar items in EconPapers)
JEL-codes: E3 E32 F41 F44 (search for similar items in EconPapers)
Pages: 61 pages
Date: 2023-07
New Economics Papers: this item is included in nep-dge, nep-eec, nep-eff, nep-mac and nep-opm
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https://www.sheffield.ac.uk/economics/research/serps First version, July 17 2023 (application/pdf)

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Working Paper: The Anatomy of Small Open Economy Productivity Trends (2023)
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Persistent link: https://EconPapers.repec.org/RePEc:shf:wpaper:2023015

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