Essays on international economics.

Abstract

This thesis consists of two chapters that study the leading and lagging relationships and home bias in international economics.The first chapter documents that the US business cycle leads, statistically, business cycles in many other developed countries. I argue that this pattern is not largely explained by different timings of underlying shocks across countries but rather by differences in labor markets. In the US the labor market is flexible and the effects of shocks on economic activity are immediate. However, in the other countries hit by the same shock hitting the US, the effects of the shock manifest only through time since their labor markets are rigid. Therefore, statistically the US appears to be the leader. To verify this theory I introduce differential labor market frictions in a standard international business cycle model and show that the model can generate, with perfectly symmetric shocks, the same lead-lag pattern observed in the data. I bring two additional pieces of evidence in favor of the idea that labor markets are central in explaining the lead-lag patterns: i) for any given couple of countries the lead-lag pattern is much more pronounced for employment series than for output, investment and TFP. ii) countries which have more marked lead-lag patterns vis-a-vis the US are the ones with more rigid labor markets. In the second chapter we explore the importance of foreign direct investment in explaining the home bias puzzle. Using the model in Helpman et al.(2004), we find that in the two-country symmetric world, the trade-output ratio is much lower than in a model without FDI, therefore more consistent with data. If FDI is allowed, the most efficient firms which have the largest market shares are to choose to invest abroad instead of doing exports. Hence trade volume decreases substantially. Furthermore, if we consider the differences between countries, the home bias continues to decrease between US-Canada and US-EU.