Macroeconomic Interdependence with Trade and Multinational Activities

Abstract

AbstractThis paper examines how differences in the integration strategies followed by firms active in foreign markets affect the way productivity and policy shocks spread their effects worldwide. The analysis incorporates costly trade and local sales by multinational firms in a general‐equilibrium open economy macroeconomic model. The mode of foreign market access is found to play a major role in the international business cycle, affecting the dimension of consumption and output spillovers worldwide. We show that despite financial markets being effectively complete, consumption risks may not be fully insured in the world economy as long as multinational firms discriminate prices across markets. Furthermore, cross‐country differences in firms' integration strategies can account for extensive asymmetries in the way country‐specific and global shocks are transmitted in the world economy. We argue that this may have relevant consequences for the welfare implications of monetary and trade policies.