Unmasking the Globalization-Crisis Linkage: A Multi-layered Counterfactual Study

Abstract

Studies that examine the relationship between globalization and crises mostly focus on the role of openness in the countries’ exposure to, and impact of the crisis, and little attention is paid to the role of globalization after the crisis. In this paper we study this question among others. In an attempt to do this, we find the existing measures limiting and thus develop a more appropriate measure that provides long-run time-series observations of the impact of the crisis. The key is predicting counterfactual levels of output for each country as if the crisis never took place. The difference between the predicted counterfactual output and the observed output post-2008, is thus attributed to the impact of the crisis. Using this measure, (1) we re-examine the effect of pre-crisis openness on the country-level impact of the global recession, as has been the norm in such studies, and (2) we uniquely extend the literature by addressing the role of openness after the crisis. We find that countries more open before the crisis were more negatively impacted during the recession, but that during the recovery period, trade openness had a restorative effect while sustained financial openness would have exacerbated the crisis, had countries not reacted to the crisis and withdrawn from international markets. These results reconcile previous findings in the literature, bringing the different aspects of this genre of queries into one encompassing analysis.

Keywords: Global recession, European debt crisis, Globalization, Counterfactuals, Trade and Financial Openness

JEL Classification: C51, F14, F36, F41, F63