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Homework in Mexico: Explaining output and consumption variability in less developed economies.

By Miguel Cardoso-lecourtois


The standard deviation of Mexican GDP around trend is about two times that of the US. Consumption is almost as volatile as output in Mexico while in the US consumption volatility is half of output volatility. Moreover, recent empirical literature has shown output and consumption to be relatively more variable in less developed countries than in the US. In this paper we investigate the extent to which the extra volatility can be explained by di®erences in the substitutability between home and market goods across countries. We present a standard neoclassical model with home production and show that there exists a positive relationship between the elasticity of substitution between market and home goods and output volatility. Our conjecture is that consumers in less developed economies tend to have higher levels of such elasticity. Using a novel Mexican data set that includes numbers on the use of time, income and expenditures of households, we estimate the elasticity of substitution between home and market goods. In order to do this, we use an instrumental variables procedure and ¯nd such elasticity to be relatively high when compared with the US estimates. Moreover, when we assume the elasticity of substitution between home and market goods to be the one found in our estimation, we can explain 70 % of output and 87 % of consumption volatility in Mexico. I am specially grateful to my advisor Narayana Kocherlakota for support at key moments and helpful comments on and improvements to this paper. I also bene¯ted from a discussion with Douglas Gollin and Stephen Parente. Special thanks go also to Professors Timothy J. Kehoe, Erzo Luttmer and Ross Levine, and to Adam Copeland and Adrian Peralta-Alva for helpful comments. Financial support from CONACY

Year: 2002
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