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Title:The propagation of U.S. shocks to Canada: Understanding the role of real-financial linkages PDF Logo
Authors:Beaton, Kimberly
Lalonde, René
Snudden, Stephen
Issue Date:2010
Series/Report no.:Bank of Canada Working Paper 2010,40
Abstract:This paper examines the transmission of U.S. real and financial shocks to Canada and, in particular, the role of financial frictions in affecting the transmission of these shocks. These questions are addressed within the Bank of Canada's Global Economy Model (de Resende et al. forthcoming), a dynamic stochastic general-equilibrium model with an active banking sector and a detailed role for financial frictions. We find that U.S. financial shocks, as well as real shocks, have important effects on the Canadian economy. Moreover, financial frictions on both the demand and supply sides of credit amplify the first round impact of all types of U.S. shocks on the U.S. economy, as well as the second round impact on Canada. Real-financial linkages also increase the persistence of the Canadian response to U.S. shocks. We find that the interaction between the endogenous response of commodity prices and U.S. financial frictions plays an important role in the propagation of U.S. shocks to the Canadian economy. Finally, real-financial linkages also help to generate the positive cross correlation between domestic demand in the United States and Canada observed in the data, which is difficult to explain with a model where the transmission of shocks between countries is only based only on trade.
Subjects:Business fluctuations and cycles
Economic models
International topics
JEL:E21
E27
E32
F36
F40
Document Type:Working Paper
Appears in Collections:Bank of Canada Working Papers

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