Demand shocks and open economy puzzles

José-Víctor Ríos-Rull and Yan Bai

No 523, 2013 Meeting Papers from Society for Economic Dynamics

Abstract: The paper explores to what extent demand shocks can solve the open economy puz- zles. To this purpose, we pose a shopping model structure a la Bai, R Ì Ä±os-Rull, and Storesletten (2011) on top of an otherwise standard two-country international real busi- ness cycle model. Shopping for goods take effort, which prevents perfect matching between potential customers and producers. Larger demand in a country increases its consumption for both home and foreign goods. Real exchange rate and terms of trade depreciate in response to the larger demand. Larger demand also induces more shop- ping and so higher output and TFP. Thus, demand shock under our shopping model generates countercyclical terms of trade and solves the Backus-Smith puzzle.

Date: 2013
New Economics Papers: this item is included in nep-dge, nep-int and nep-opm
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Journal Article: Demand Shocks and Open Economy Puzzles (2015)
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed013:523

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