The world experienced a synchronized collapse in trade flows during the recent global financial crisis: global trade fell by 15 percent from the first quarter of 2008 through the first quarter of 2009. Perhaps the most striking fact about this episode is that global GDP over the same period declined by 3.7percent, implying a trade elasticity of 4. This article reviews the recent literature on the causes and consequences of the dramatic collapse in global trade.
Question 1: Why was trade elasticity so high during the 2008–09 financial crisis?
The disproportional fall in trade (relative to GDP) resulted from a composition effect that accompanied a fall in global demand. The standard one-sector macro model predicts that trade should rise and fall proportionally to aggregate demand. This result, however, does not hold in a multisector setting, when final demand for tradables falls by more than that for nontradables. Indeed, demand changes during the financial crisis exhibited large sectoral asymmetries. Bems, Johnson, and Yi (2010) estimate that final demand, including changes in inventories, for durable manufactures fell by more than 25 percent globally, while demand for services remained broadly unchanged. Since durables constitute only 10 percent of final demand, but 37 percent of global trade, trade contracted by more than output. Bems, Johnson, and Yi (2010) perform a detailed cross-country exercise to quantify the impact of the observed sectoral demand asymmetries on trade. The exercise generates a trade elasticity of 3, thus explaining three-quarters of the response of trade to output during the crisis. Other studies, including Auboin (2009) and Eaton and others (2011), report similar estimates.
Question 2: Was the fall in global demand unprecedented?
There are two contributing factors to the trade collapse that stand out in the historical context. First, the size of the fall in global final demand was unprecedented in the postwar period. The fall in demand by 3.7 percent is comparable only to the Depression era. Second, all the major world economies (with the notable exception of China and India) experienced a simultaneous contraction in final demand during the 2008–09 crisis, which is equally unprecedented.
Interestingly, there was nothing unique about the size of sectoral asymmetries in the final demand contraction, which generated the large trade elasticity. Such asymmetries are a well-documented empirical regularity of business cycles. Bussière and others (2011) find that demand asymmetries between components of aggregate demand were of comparable magnitude during the 2008–09 crisis and earlier downturns. Alessandria, Kaboski, and Midrigan (2010) argue that relative to the magnitude of the downturn, inventory cycle dynamics—another important contributor to asymmetries—were also not out of the ordinary.
Question 3: Did tightening of trade finance contribute to the high trade elasticity?
Deterioration in credit conditions is a well-documented source of asymmetries in sectoral supply dynamics. Despite challenges of distinguishing between the effects of general credit supply and availability of trade finance, several recent papers investigate how credit conditions faced by exporters contributed to the trade collapse. Chor and Manova (2010) estimate that credit restrictions on international trade generated a 2.5 percent fall in U.S. imports, compared to an overall fall of 12 percent. Paravisini and others (2011) find that cutbacks in bank credit to exporting companies accounted for 15 percent of the drop in Peruvian exports during the financial crisis. The World Bank estimates that 10 to 15 percent of the trade collapse can be attributed to the fall in the supply of trade finance (Auboin, 2009). The various quantitative estimates are broadly consistent and suggest that supply of trade finance contributed to the collapse.
Question 4: Did trade restrictions contribute to the trade collapse?
There is no systematic evidence that trade restrictions contributed significantly to the global trade collapse. Motivated by historical experience, many experts were concerned that the global crisis would lead to major increases in protectionism, which can easily spiral out of control (Baldwin and Evenett, 2009). Fortunately, such concerns so far have found no empirical support. Gregory and others (2010) conclude that the aggregate impact of new restrictions is modest, estimated at about 0.25 percent of global trade. Bown (2010) finds that the measured increase in temporary trade barriers during the crisis was consistent with pre-crisis trends.
Question 5: Did global production chains contribute to the trade collapse?
Global production-sharing arrangements have proliferated during recent decades, with intermediate production inputs now accounting for two-thirds of global trade flows. These developments make trade related to production chains a suspect in the trade collapse. To answer the question, it is important to distinguish between two commonly used definitions of trade related to global production chains. The first broad definition considers such trade as all traded intermediate production inputs. Bems, Johnson, and Yi (forthcoming) find that, contrary to some suggestions in the literature, trade in intermediate production inputs during the financial crisis exhibited significantly lower output elasticity (2.1) than trade in final goods (4.6). The authors explain the variation in trade elasticities in terms of differences in composition effects: durables have a larger weight in trade with final goods than intermediates, and the relevant sectoral demand asymmetries during the crisis were smaller for intermediates than final goods.
The other, narrower, definition considers trade associated with production sharing as all traded intermediate production inputs that are subsequently re-exported (vertical specialization trade). Bems, Johnson, and Yi (forthcoming) estimate that output elasticity for trade in re-exported imports was larger (3.5) than that for other trade flows (2.8). The difference is again explained by composition effects: sectors that exhibited a larger fall in demand were also the ones that are more vertically specialized.
Thus, depending on the definition used, trade related to global production chains exhibited higher or lower output elasticity than other trade flows. One potential shortcoming of this research is that the structure of cross-country production-sharing arrangements is assumed to have remained constant during the crisis, which leads to the next important question.
Question 6: How did the trade collapse affect global trade patterns and production chains?
Longer post-crisis data series are needed to convincingly answer this question. Nevertheless, several recent studies suggest that the trade collapse took place mostly through the intensive margin of trade, with falling quantities and to a lesser extent prices. Behrens, Corcos, and Mion (2010) look at detailed trade data for Belgium and conclude that the fall in trade was broad-based and very homogenous. Examining data for French exporters, Bricongne and others (2010) also conclude that the collapse was mostly on the intensive margin and equally affected small and large exporters. Haddad, Harrison, and Hausman (2010) draw broadly similar conclusions from data for the United States, European Union, Brazil and Indonesia.
The finding that the collapse in trade took place predominantly on the intensive rather than extensive margin matches evidence from previous crises (e.g., the 1997 Asian crisis). It is consistent with the claim that demand was the main driver of the collapse and that the structure of global production sharing was not significantly altered during the crisis. It remains to be seen if the crisis will lead to any longer-term structural changes in trade patterns.
Question 7: Were there significant cross-country spillovers from the trade collapse?
The conventional economic wisdom tells us that trade cannot generate significant cross-country spillovers from a decline in domestic demand, because trade linkages are small relative to the aggregate economic activity. Bems, Johnson, and Yi (2010) argue that this intuition did not apply during the financial crisis. The main reason is that the decline in demand was concentrated in sectors that are very open to trade. In the case of the United States, estimates show that 40 percent of final demand changes for durables are borne by foreign countries, but only 1 percent of changes in final demand for services. Given the observed demand asymmetries during the crisis, the authors estimate that 20 to 30 percent of the observed decline in final demand in the United States and the European Union was borne by foreign countries. Predictably, partners in the North American Free Trade Agreement were most affected by the demand decline in the United States, while Eastern Europe was most affected by the demand decline in the European Union. Both trade in intermediate and final goods contributed significantly to the cross-country spillovers.
Alessandria, G., J.P.Kaboski, and V.Midrigan,2010, “The Great Trade Collapse of 2008–09: An Inventory Adjustment?” IMF Economic Review, Vol. 58, No. 2, pp. 254–94.
Auboin, M.,2009, “Boosting the Availability of Trade Finance in the Current Crisis: Background Analysis for a Substantial G20 Package,” CEPR Policy Research Paper No. 35 (London: Centre for Economic Policy Research).
Baldwin, R., and S.Evenett,2009, The Collapse of Global Trade, Murky Protectionism, and the Crisis: Recommendations for the G20, VoxEu ebook ( London).
Behrens, K., G.Corcos, and G.Mion,2010, “Trade Crisis? What Trade Crisis?” CEPR Discussion Paper 7956 (London: Centre for Economic Policy Research).
Bems, R., R.C.Johnson, and K.Mu Yi,2010, “Demand Spillovers and the Collapse of Trade in the Global Recession,” IMF Economic Review, Vol. 58, No. 2, pp. 295–326.
Bems, R., R.C.Johnson, and K.Mu Yi,forthcoming, “Vertical Linkages and the Collapse of Global Trade,” American Economic Review: Papers and Proceedings.
Bown, C.P.,2010, “Taking Stock of Antidumping, Safeguards, and Countervailing Duties, 1990–2009,” World Bank Policy Research Working Paper 5436 (Washington: World Bank).
Bricongne, J.C., L.Fontagne, G.Gaulier, D.Taglioni, and V.Vicard,2010, “Firms and the Global Crisis: French Exports in the Turmoil” (unpublished; Bank of France).
BussièreM., G.Callegari, F.Ghironi, G.Sestieri, and N.Yamano,2011, “Estimating Trade Elasticities: Demand Composition and the Trade Collapse of 2008–09” (unpublished).
Chor, D., and K.Manova,2010, “Off the Cliff and Back? Credit Conditions and International Trade during the Global Financial Crisis,” NBER Working Paper 16174 (Cambridge MA: National Bureau of Economic Research).
Eaton, J., S.Kortum, B.Neiman, and J.Romalis,2011, “Trade and the Global Recession,” NBER Working Paper No. 16666 (Cambridge MA: National Bureau of Economic Research).
Gregory, R., C.Henn, B.J.McDonald, and M.Saito,2010, “Trade and the Crisis: Protect or Recover,” IMF Staff Position Note 10/07 (Washington: International Monetary Fund).
Haddad, M., A.Harrison, and C.Hausman,2010, “Decomposing the Great Trade Collapse: Products, Prices, and Quantities in the 2008-2009 Crisis,” NBER Working Paper No. 16253 (Cambridge MA: National Bureau of Economic Research).
ParavisiniD., V.Rappoport, P.Schnabl, and D.Wolfenzon,2011, “Dissecting the Effect of Credit Suppy on Trade: Evidence from Matched Credit-Export Data,” NBER Working Paper No. 16975 (Cambridge MA: National Bureau of Economic Research).