On the intertemporal modeling of intra-European monetary union and global trade imbalances
Based on the seminal contributions of Sachs (1981) and Buiter (1981), intertemporal equilibrium modelers analyzed the impacts of respective intra-EMU (core, periphery) and Asian-US financial integration between 1999 and 2007 on intra-EMU and global (Asia, USA) current account imbalances (e.g. Ca’Zorzi and Rubaszek, 2012; Eugeni, 2013). They found that the current account to GDP ratios empirically observed in the EMU, in Asia and in the USA could be rather well reproduced by these intertemporal equilibrium models. Encouraged by these results, Farmer and Ban (2014) developed a three-country (EMU, Asia, USA), two-region (EMU core, EMU periphery) intertemporal equilibrium model à la Buiter (1981) in order to address both the trade linkages between EMU sub-areas and extra-EMU trading partners forcefully pointed out by Chen et al. (2013) and the interest rate convergence not only within the EMU but also between Asia and USA (Angeletos and Panousi, 2011). However, when splitting up the model-generated current account to GDP ratios into the trade imbalance and the interest revenues on the net foreign asset position components, Farmer and Ban (2014) encountered much too low trade imbalance to GDP ratios generated by their model compared to the empirically observed ones.
Thus, the objective of the present paper is to modify this three-country, two-region intertemporal equilibrium model in order to be able to reproduce the empirically observed sizes of trade imbalance to GDP ratios of EMU core and periphery as well as of Asia and USA after intra EMU and Asia-USA financial integration.
(2) Methods
To pursue this objective, endogenous trade imbalances in line with Whalley et al. (2011) are introduced into the three-country, two-region OLG model. It will be used to see whether the observed trade imbalances, current account imbalances and net foreign asset positions can be referred to the interest rate convergence among EMU core and periphery as well between EMU, Asia and the USA.
(3) Expected Results
It is expected that endogenously determined trade imbalances instead of balanced trade in intertemporal equilibrium and dynamic inefficiency (= natural growth rate larger than the real interest rate) allows for sizes of the trade imbalance to GDP ratios in line with the empirically observed ratios.