The 'Great Moderation' and the US External Imbalance

Posted: 7 May 2007

See all articles by Alessandra Fogli

Alessandra Fogli

Leonard N. Stern School of Business - Department of Economics

Fabrizio Perri

Leonard N. Stern School of Business - Department of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: December 2006

Abstract

The early 1980s marked the onset of two striking features of the current world macro-economy: the fall in US business cycle volatility (the great moderation) and the large and persistent US external imbalance. In this paper we argue that an external imbalance is a natural consequence of the great moderation. If a country experiences a fall in volatility greater than that of its partners, its relative incentives to accumulate precautionary savings fall and this results in an equilibrium permanent deterioration of its external balance. To assess how much of the current US imbalance can be explained by this channel, we consider a standard two country business cycle model in which households are subject to country specific shocks they cannot perfectly insure against. The model suggests that a fall in business cycle volatility like the one observed for the US relatively to other major economies can account for about 20% of the current total US external imbalance.

Keywords: business cycle volatility, current account, net foreign asset position, precautionary saving

JEL Classification: F32, F34, F41

Suggested Citation

Fogli, Alessandra and Perri, Fabrizio, The 'Great Moderation' and the US External Imbalance (December 2006). CEPR Discussion Paper No. 6010, Available at SSRN: https://ssrn.com/abstract=984513

Alessandra Fogli (Contact Author)

Leonard N. Stern School of Business - Department of Economics ( email )

269 Mercer Street
New York, NY 10003
United States
212-998-0872 (Phone)

Fabrizio Perri

Leonard N. Stern School of Business - Department of Economics ( email )

269 Mercer Street
New York, NY 10003
United States
212-998-0251 (Phone)
212-995-4218 (Fax)

HOME PAGE: http://www.stern.nyu.edu/~fperri/

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