Trade and Uncertainty
We offer a new explanation as to why international trade is so volatile in response to economic shocks. Our approach combines the uncertainty shock idea of Bloom (2009) with a model of international trade, extending the idea to the open economy. Firms import intermediate inputs from home or foreign suppliers, but with higher costs in the latter case. Due to fixed costs of ordering firms hold an inventory of intermediates. We show that in response to an uncertainty shock firms optimally adjust their inventory policy by cutting their orders of foreign intermediates disproportionately strongly. In the aggregate, this response leads to a bigger contraction in international trade flows than in domestic economic activity. We confront the model with newly-compiled monthly aggregate U.S. import data and industrial production data going back to 1962, and also with disaggregated data back to 1989. Our results suggest a tight link between uncertainty and the cyclical behavior of international trade.
We thank the Souder Family Professorship at the University of Virginia, the Center for the Evolution of the Global Economy at the University of California, Davis, and the Centre for Competitive Advantage in the Global Economy (CAGE) at the University of Warwick for financial support. Travis Berge and Jorge F. Chavez provided valuable research assistance. For helpful conversations we thank Nicholas Bloom. We are also grateful for comments by Nuno Limão, Giordano Mion, Veronica Rappoport, and John Van Reenen, as well as seminar participants at the 2011 Econometric Society Asian Meeting, the 2011 Econometric Society North American Summer Meeting, the 2011 LACEA-LAMES Meetings, the 2012 CAGE/CEP Workshop on Trade Policy in a Globalised World, the 2013 Economic Geography and International Trade (EGIT) Research Meeting, the NBER ITI Spring Meeting 2013 , the 2013 CESifo Global Economy Conference, the 2013 Stanford Institute for Theoretical Economics (SITE) Summer Workshop on the Macroeconomics of Uncertainty and Volatility, the Monash-Warwick Workshop on Development Economics, Boston College, LSE, Nottingham, Oxford, Penn State and Warwick. All errors are ours. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
Alan M. Taylor
Alan M. Taylor has served as an author, consultant or speaker for various policy making institutions and financial sector firms. He served as a Senior Advisor to Morgan Stanley in 2010-11.
Dennis Novy & Alan M. Taylor, 2020. "Trade and Uncertainty," The Review of Economics and Statistics, vol 102(4), pages 749-765. citation courtesy of