The role of common shocks in small open economies between 1900 and 2006: a structural estimation

What is the role of common shocks in driving the business cycles of small open economies? We investigate this question in a structural small open economy model featuring a realistic debt adjustment cost and common shocks. We estimate the model using data for 17 small developed and developing countries between 1900 and 2006. The estimated model attributes nearly 50% of the output ‡uctuations over the last 100 years in both small developed and developing economies to common shocks. We also …nd that there are a number of common shocks important in explaining the cross country correlation of both domestic and trade variables such as common productivity and premium interest rate shocks. As the role of common shocks for both small developed and developing countries are signi…cant over the entire history, our paper suggests that an interesting venue for the future research is to understand the propagation of shocks to small open economies over time. JEL classi…cation: F44, F41, E13, E32.