Does the Persistent Widening in the Trade Deficit Explain the Decline in the Manufacturing Sector Output and Employment Growth?

Abstract

Does the persistent widening in the trade deficit explain the decline in the manufacturing sector output and employment growth? We find that the trade balance deficits and surpluses exert opposing effects on the manufacturing sector output growth and employment growth. Furthermore, the trade deficit (surplus) channel amplifies the decline (increase) in the manufacturing sector output growth and employment growth in response to positive trade balance shocks. The R/US$ exchange rate appreciation shocks amplify the impact of positive trade deficit shocks on the manufacturing sector output growth and employment growth. The results from the historical decomposition approach indicate that in the absence of the trade deficit shock, the manufacturing sector output growth and employment growth would have been higher. As such, the trade deficit shock resulted in much lower manufacturing sector output growth and employment growth. Thus, the trade deficit shock dampened the manufacturing sector output and employment growth between 2005Q1 and 2008Q3. Widening and persistent trade deficits dampen the rate at which the manufacturing sector output growth and employment growth benefit from the heightened aggregate domestic demand shocks.