Inter-industry trade and business cycle dynamics

Motivated by the increased importance of trade between industrialized and less-developed countries, we build a DSGE model featuring comparative advantage and inter-industry trade to analyze business cycle dynamics. We show that productivity shocks lead to shifts in the relative demand of exporting and import-competing sectors, implying an important role for the mobility of workers across sectors. If workers are very mobile then the aggregate implications of the two-sector model are very similar to a one-sector model. If workers are very immobile then the two-sector model features smaller responses in GDP to domestic shocks but larger responses to foreign shocks, implying larger comovement of GDP across countries.