Terms of Trade, Intermediate Goods and International Real Business Cycles: Australia Case

Abstract

This paper examines whether a two-sector business cycle model with intermediate and import goods successfully replicates stylized facts of the international real business cycle in a small open economy. Our model incorporates the neoclassical framework, with productivity shocks in both manufacturing and non-manufacturing sectors, terms of trade shock, import goods and intermediate goods. Our model is able to mimic the important features of business cycles in Australia. The productivity shock of the non-manufacturing sector has a dominant role in a small open economy's business cycle. The productivity shock of the non-manufacturing sector increases imports more than exports.