Can Structural Small Open Economy Models Account for the Influence of Foreign Disturbances?

46 Pages Posted: 5 Dec 2009

See all articles by Alejandro Justiniano

Alejandro Justiniano

Federal Reserve Bank of Chicago

Bruce J. Preston

Columbia University - Graduate School of Arts and Sciences - Department of Economics

Multiple version iconThere are 2 versions of this paper

Date Written: November 30, 2009

Abstract

This paper demonstrates that an estimated, structural, small open-economy model of the Canadian economy cannot account for the substantial influence of foreign-sourced disturbances identified in numerous reduced-form studies. The benchmark model assumes uncorrelated shocks across countries and implies that U.S. shocks account for less than 3 percent of the variability observed in several Canadian series, at all forecast horizons. Accordingly, model-implied cross-correlation functions between Canada and U.S. are essentially zero. Both findings are at odds with the data. A specification that assumes correlated cross-country shocks partially resolves this discrepancy, but still falls well short of matching reduced-form evidence.

Keywords: Business Cycles, Open Economy Macroeconomics, Bayesian Estimation, International Comovement

JEL Classification: E30, F41

Suggested Citation

Justiniano, Alejandro and Preston, Bruce J., Can Structural Small Open Economy Models Account for the Influence of Foreign Disturbances? (November 30, 2009). FRB of Chicago Working Paper No. 2009-19, Available at SSRN: https://ssrn.com/abstract=1517958 or http://dx.doi.org/10.2139/ssrn.1517958

Alejandro Justiniano (Contact Author)

Federal Reserve Bank of Chicago ( email )

230 South LaSalle Street
Chicago, IL 60604
United States

Bruce J. Preston

Columbia University - Graduate School of Arts and Sciences - Department of Economics ( email )

420 W. 118th Street
New York, NY 10027
United States

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