THE TERMS OF TRADE, THE REAL EXCHANGE-RATE, AND ECONOMIC-FLUCTUATIONS

This paper examines the relationship between terms of trade and busine ss cycles using a three-sector intertemporal equilibrium model and a l arge multi-country database. Results show that terms-of-trade shocks a ccount for nearly 1/2 of actual GDP variability. The model explains we ak correlations between net exports and terms of trade (the Harberger, Laursen, and Metzler effect), and produces large and weakly-correlate d deviations from purchasing power parity and real interest rate parit y. Terms-of-trade shocks cause real appreciations and positive interes t differentials, although productivity shocks have opposite effects. T he puzzle that welfare gains of international asset trading are neglig ible is left unresolved.