Friday, July 3, 2009

Why has trade fallen so hard during this recession?

Trade has fallen off a cliff for many economies around the global. In fact, trade declines have been multiples larger than the decline in GDP. This has been surprising but a recent study by Caroline Freund in voxeu.org starts to explore this issue. See "Demystifying the collapse in trade". Freund first shows that the sensitivity of trade to changes in GDP has increased dramatically in the last few decades. The impact of every 1% decline in GDP is now almost 3.5 times greater. The issue is why is there an increased sensitivity to trade. 

Freund offers some possibilities which make sense but have to be explored in detail. These include greater drawdown in inventories which hurt production, greater protectionist policies in recessions, sourcing more form home countries in a downturn, and the use of foreign sources for marginal increases in trade.

The result is greater vulnerability for countries that have large export business; however, it also means that a turn around may also have the biggest impact for these exporting countries. At issue will be how importing countries behave. Protectionist policies will be harder to reverse so there needs to be care with restrictions on trade. The global impact of protectionist policies will change the elasticities of trade to changes in growth. 

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