No. 827 - Foreign trade, home linkages and the spatial transmission of economic fluctuations in Italy

During the recent global recession both the export-oriented northern Italian regions and those in the far less open South experienced a sharp decline in economic activity. One of the possible explanations is the existence of strong domestic linkages propagating foreign demand shocks from North to South. To assess the scope of the spatial transmission of global and local disturbances across Italian regions, in this paper we specify and estimate a bivariate structural spatial VAR model featuring GDP and foreign exports as endogenous variables. A standard gravity equation approach is implemented to model unobserved domestic regional trade flows, while regional sales on foreign markets are related to global trade fluctuations and local shocks to competitiveness, broken down into a national and an idiosyncratic component. In line with expectations, strong domestic linkages are uncovered on the basis of model estimation results. The latter show that even less export-oriented Italian regions, although broadly unaffected on impact, may eventually experience a sharp output decline following a fall in global trade of the size observed in the recent recession.