An Equilibrium Model of 'Global Imbalances' Revisited

On the Brink? Intra‐euro Area Imbalances and the Sustainability of Foreign Debt

“…By doing so we account for the two so far unconnected extensions of the model by fully integrating foreign direct investment and associated capital flows together with real exchange rates in a joint model. In contrast to the original Caballero et al (2008) model, all three available rebalancing channels are working in conjunction (Körner 2011).…”

“…We follow Körner (2011) in using a more realistic calibration of domestic and foreign investment costs enabling us to show that the trajectories of international indebtedness of countries are difficult to reverse in cases of extreme international investment positions. The latter is particularly true if the real exchange rate channel cannot be fully utilized to correct imbalances-as in the case of limited nominal exchange rate flexibility when all real exchange rate adjustment comes from price level changes.…”

“…We calibrate the model using the same techniques as in Caballero et al (2008) and Körner (2011). The convergence in nominal interest rates and inflation rates in the run-up to the start of the euro in 1999 serves as a financial market shock.…”

“…Growth rates are past rates of real GDP growth and investment and FDI costs are estimated using a moving window of past net investment over GDP ratios and net investment income measures. The baseline set of core parameters includes the demographics parameter q, the CES adjustment parameter s and starting values for the international investment positions, which is kept in line with Caballero et al (2008) and Körner (2011). The net investment share k is around 6.5% in the euro area (6.2% in the core, 8.2% in the periphery) for the run-up to EMU in 1999.…”