Description:

Ernest Liu (Princeton): International Trade in an Uncertain World

Abstract:

We develop a tractable approach to characterize the distributions of the endogenous vari-ables in quantitative trade models under aggregate uncertainty and incomplete markets. Weallow agents to makeex anteinvestments in import and export capacity that determine re-silience in the face of this aggregate uncertainty. Equilibriumex anteinvestments affectexpostbilateral trade shares, and theseex anteinvestments depend not only on the expectedcosts of sourcing goods, but also on the variance and covariance of these costs across coun-tries. Therefore a country’s risk profile becomes a key determinant of its comparative ad-vantage, terms of trade, and welfare. Trade liberalization affects welfare through both firstmoments (expected real income) and second moments (the variance of real income), withendogenous adjustments inex anteinvestments playing a key role in mediating these ef-fects. Changes in the covariance structure of global shocks have heterogeneous effects acrosscountries, depending on the extent to which they raise or reduce countries’ abilities to hedgeagainst aggregate uncertainty through theirex anteinvestments