European Economic Review (2002) 46 (2), 273 300
Multi-country models have not been very successful in replicating important features of the international transmission of business cycles. This paper extends previous work by introducing multiple sectors and traded intermediate inputs. Trade in intermediate goods represents approximately 60% of total trade and could significantly affect the main features of the international transmission of business cycles. In our model, imperfect substitution between domestic and foreign goods leads to cross-hauling in intermediate goods. As well, with more than a sector within each country there may be important inter-sectoral spillover effects that alter the transmission of shocks across countries. We show that these features of the model are important and can generate cross-correlations of output levels, employment and investment that are compatible with the data.