THE INTERNATIONAL TRANSMISSION OF REAL BUSINESS CYCLES - EXPLAINING THE CROSS-COUNTRY CONSUMPTION CORRELATIONS

This paper develops a simple one-sector, two-country equilibrium model which accounts for the relatively low cross-country consumption correlations without damaging the areas of success of existing models. This improvement arises from the modification of the consumption index in order to add public consumption to private consumption in the preference of the agents, which allows shocks to government purchases to alter the marginal utility of consumption. Then, this model explains quite well both the high correlation between saving and investment and the countercyclicality of the net exports. These three features are robust to the choice of parameters governing the process of the productivity shocks. However, only a strong cross-correlation of home and foreing technology shocks enables the model to mimic the cross-country correlation of output.