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Journal article
Trade and uncertainty
Dennis Novy and Alan M. Taylor
October 2020
Paper No' :

Tags: uncertainty shock; trade collapse; inventory; real options; imports; intermediates

We offer a new explanation as to why international trade is so volatile in response to economic shocks. Our approach combines the idea of uncertainty shocks with international trade. Firms order inputs from home and foreign suppliers. In response to an uncertainty shock firms disproportionately cut orders of foreign inputs due to higher fixed costs. In the aggregate, this leads to a bigger contraction in international trade flows than in domestic activity, a magnification effect. We confront the model with newly compiled US import and industrial production data. Our results help to explain the Great Trade Collapse of 2008-2009. © 2019 by the President and Fellows of Harvard College and the Massachusetts Institute of Technology.