"The Sources of Macroeconomic Fluctuations in Developing Countries: Brazil and Korea"WP/96/20-EA The Sources of Macroeconomic Fluctuations in Developing Countries: Brazil and Korea by Alexander W. Hoffmaister and Jorge E. Roldós This paper focuses on the sources of macroeconomic fluctuations in small open economies. In addition to assessing the relative importance of domestic demand and supply shocks, the methodology allows an evaluation of the role of external shocks. To identify the sources of business cycles, a set of block exogeneity restrictions is added to the usual long-run restrictions that constrain the effects of aggregate demand and nominal shocks on the level of output. To justify the long-run restrictions as well as to interpret the empirical results, the paper models an economy that produces an exportable and a nontradable good using an imported intermediate input. This model incorporates the effect of oil price shocks, world output fluctuations, and structural reforms. The data determine the short-run dynamics without specifying such frictions as price rigidities, adjustment costs, and information restrictions that are responsible for keeping output within the production possibilities frontier. Thus, the empirical strategy encompasses a wide class of macroeconomic paradigms in a unified framework. Because structural reforms are essentially supply shocks, while stabilization policies are basically demand shocks, the analysis contributes to the understanding of the output and real exchange rate effects of adjustment programs. In this vein, the empirical framework compares the performance of Brazil and Korea. These representative middle-income countries followed similar trade and macroeconomic policies until the end of the 1970s, but their policies took different directions in the 1980s. The main results in this paper confirm, for small open economies, the stylized fact found for the U.S. economy: supply shocks tend to dominate output fluctuations even in the short run. In Brazil demand policies play an important role in explaining the short-run fluctuations of output and the real exchange rate, but in Korea the effects of these policies are negligible. Unlike other studies, this study finds that, controlling for domestic and supply shocks, external factors play a limited role. External factors tend to account for less than 20 percent of the fluctuations in GDP for both countries. Finally, although fiscal policy shocks appear to be the main driving force of real exchange rates, nominal shocks have almost no effect on these rates. |