International Co-Movements in Recessions

76 Pages Posted: 2 Feb 2018

Date Written: January 31, 2018

Abstract

Business cycle correlations are state-dependent and higher in recessions than in expansions. In this paper, I suggest a mechanism to explain why this is the case. For this purpose, I build an international real business cycle model with occasionally binding constraints on capacity utilization which can account for state-dependent cross-country correlations in GDP growth rates. The intuition is that firms can only use their machines up to a capacity ceiling. Therefore, in booms the growth of an individual economy can be dampened when the economy hits its capacity constraint. This creates an asymmetry that can spill-over to other economies, thereby creating state-dependent cross-country correlations in GDP growth rates. Empirically, I successfully test for the presence of capacity constraints using data from the G7 advanced economies in a Bayesian threshold autoregressive (T-VAR) model. This finding supports capacity constraints as a prominent transmission channel of cross-country GDP asymmetries in recessions compared to expansions.

Keywords: international business cycles, business cycle asymmetries, GDP co-movement, capacity constraints, occasionally binding constraints

JEL Classification: E32, E60, F41, F44, F47

Suggested Citation

Roth, Moritz A., International Co-Movements in Recessions (January 31, 2018). Banco de Espana Working Paper No. 1804, Available at SSRN: https://ssrn.com/abstract=3116035 or http://dx.doi.org/10.2139/ssrn.3116035

Moritz A. Roth (Contact Author)

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Strasse 14
60431 Frankfurt am Main
Germany

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