The Virtues of Flecibility: Import Dependence and External Shocks

B.N. Dennis and T.B. Iscan

Department of Economics at Dalhousie University working papers archive from Dalhousie, Department of Economics

Abstract: This paper considers how the structure of an open economy determines its flexibility in responding to external shocks. Inter- and intrasectoral reallocation of both expenditures and factors of production are shown to mitigate the consequences of a severe terms-of-trade shock. We demonstrate that the degree of flexibility reulting from these reallocative effects depends partly on intrasectoral differences in import dependence. The paper introduces sectoral heterogeneity by allowing the relative shares of labour and imported inputs used in production to differ across monopolistically competitive industries. Flexibility is shown to be reduced by:(i) low technological diversity, which constrains sectoral heterogeneity and hence the scope of factor reallocation, and (ii) high market power, which curbs expenditure subsitution across different consumption goods in the wake of a shock. The empirical implications of the model are demonstrated using sectoral data from Mexico.

Keywords: OPEN ECONOMY MACROECONOMICS; HETEROGENEITY; TRADE; RESOURCE REALLOCATION (search for similar items in EconPapers)
JEL-codes: F41 F12 (search for similar items in EconPapers)
Date: 2000

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Persistent link: http://EconPapers.repec.org/RePEc:dal:wparch:2000-6

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