Even though U.S. output and productivity have picked up over the last year, softness in our labor market has motivated questions about economic events abroad triggering a turnaround here. Will bursts of expansion from our principal trading partners give us a push? The chances look slim. One way or another, this is something we'll have to do on our own.
Although the interconnections that make up the world economy are well known, some paradoxical details about the United States seem not to be fully appreciated. Much recent economic literature suggests that the more countries trade, the more alike their business cycles become. An upswing that starts in one country will follow in its trading partners. Figure 1 shows how indexes of trade as a percentage of GDP have grown for each of nine countries since 1965. Be cause these are indexes, they do not show trade's actual share of GDP; they only show how much the share has changed from the 1965 index value of 100.
[FIGURE 1 OMITTED]
Most of the countries in Figure 1 have seen very large expansions in their trade/GDP indexes, signaling increased links between their business cycles and those of other countries. Japan's trade share has not changed much at all, and Singapore's has only grown a little (trade has always been important in Singapore). But between 1965 and 2001 the other seven countries raised their trade/GDP shares by at least 50 percent (that is what the 150 means on the vertical axis). Mexico and South Korea increased their trade share indexes by more than 200 percent.
While U.S. trade as a percentage of GDP did not grow as rapidly as Mexico's and South Korea's, it still increased by about 150 percent between 1965 and 2001. Of course, U.S. GDP itself has expanded a great deal over this period. The 150 percent growth in the trade/GDP ratio just means our trade jumped even more. No wonder other countries' business cycles move with ours.
Changes in the composition of trade accent its role in harmonizing business cycles. Steadily and persistently, manufacturing and services have become more important components of overall trade during the last several decades. This transformation has occurred not only among our European trading partners and in Asia, but in Latin America, sub-Saharan Africa, and the rest of the developing world. Much more than primary products, fluctuations in these same industrial and service activities are the basis for business cycle correlations across countries. The...