Economic Convergence and Decoupling in a Globalized World    

     Highly controversial and greatly overused, the term “globalization” generally characterizes  the phenomenon by which multiple economies have apparently begun to move in sync with one another. The pundits may all have their own opinions on the merits of global inter-connectedness, but statistics tell many different stories regarding whether international economies have really converged to move in a synchronous global business cycle. In an attempt to provide a more sophisticated answer to this question, M. Ayhan Kose of the IMF, Christopher Otrok of the University of Virginia and Eswar S. Prasad of Cornell University embark on a global data tour in their 2008 paper entitled “Global Business Cycles: Convergence or Decoupling?”

     The anecdotal evidence favoring one view over another has been inconclusive. On the one hand, many emerging market economies, particularly China and India, have apparently been unaffected by the slow growth of developed, industrial countries. This seemingly indicates that decoupling between the developing and developed world would best describe the interaction of world economies, but the reality is more complicated. As this year’s events have shown, few  countries are immune from the effects of the U.S. mortgage meltdown, demonstrating that cross-border economic interdependence between countries of varying income levels clearly exists. In addition, increased liberalization regarding trade policy has increased counter-party or counter-country risk. This by definition would indicate that economies of all sizes are converging.

     Yet it is difficult to garner any real insights from such a universal perspective. First, one needs a point of departure: identifying this point can help one to identify the macroeconomic issues that facilitated and accelerated the appearance of convergence. Kose et. al. demarcated 1984-85 as the break between the pre-globalization period stretching back to 1960 and the post-globalization continuing on through the present. The intensification of global trade in the 1990s and common shocks resulting from oil crises in the 1970s made 1984 an ideal point for the division, especially as a structural decline in business cycle volatility began at this time. Second, Kose et. al. argue that to properly study the extent of globalization, countries must be grouped in three different buckets: industrial countries, emerging market economies, and “other” developing countries – distinctions that obfuscate the earlier clarity in attributing the degree of convergence to a worldwide phenomenon. Through these categorizations, we can develop a more detailed understanding as to why world economies have either aligned or started to move out of sync.

     After extensive research, the authors discovered that while country-specific factors accounted for 60% of the variation in output of business cycle movements in both emerging and industrial economies, decoupling occurred between the two groups. Whereas within each country category globalization seems to prevail, divergence more accurately describes the cross-group relationship, at least for the time being. Thus, the authors argue, a global business cycle does exist, though not uniformly across all groups or time periods. The world economy is not a static entity, however – inevitably, countries will take on new labels and characteristics as their economies mature, and will begin to replicate the relationships between the more developed countries. As the factors driving aggregate demand and output in these countries evolve and adjust, there will be an increased likelihood of not only intra- but also cross-group convergence.