By Thomas Oatley
Nevertheless, the fact remains that the American economy has been curiously resilient over the past few months. Things are getting better when you could imagine them getting worse.
This isn't curious; this is how the global economy functions. Financial and economic shocks that originate in the United States have global consequences, while shocks that originate in other parts of the system have consequences that are primarily local.* Empirical research conducted over the past ten years finds clear and consistent evidence of this asymmetry Consider the asymmetric impact of news—unexpected economic outcomes--on asset prices. When US economic performance is stronger than expected or if US monetary policy tightens unexpectedly, interest rates rise in the UK and euro areas and the dollar appreciates. Stronger-than-expected US growth raises foreign equity prices during US recessions, and reduces them during expansions. In contrast, foreign economic news has little impact on markets in the US and elsewhere. German economic news has little impact on euro-dollar exchange rate; euro-area news has little impact on US bond yields. British news has no impact on US equity prices.
Similar asymmetries characterize spillovers through financial linkages. Changes in American interest rates affect interest rates in Australia, Canada, and the euro area. US equity market movements affect equity prices in overseas markets. Yet, US interest rates, exchange rates, and equity prices are affected modestly if at all by foreign developments. For instance, one study finds that the share of euro area variance in equity and bond prices accounted for by US market developments is three times as large as the impact of euro market movements impact on US bond and equity prices. Others find robust evidence that real interest rates in the United States affect real interest rates in the euro area but no evidence that euro rates affect rates in the US.
There is a broader point, here. Although we typically realize that the global economy is defined by connectedness, we pay little attention to the structure of that connectedness. And even when we give some thought to this structure, we rarely consider how the structure shapes performance. We seem willing to accept Friedman's claim that the world is flat. Well, the world isn't flat. The world is hierarchical. This hierarchical structure shapes performance in ways that are important and remain underappreciated. We need to pay it greater attention.
*For an entry to this research, see Bayoumi, Tamim, and Andrew Swiston. 2010. "TheTies that Bind: Measuring International Bond Spillovers Using Inflation-IndexedBond Yields." IMF Staff Papers57 (2):366–406. (An ungated pre-pub version here).