Does leaving a currency union reduce international trade? We answer this question using a large annual panel data set covering 217 countries from 1948 through 1997. During this sample a large number of countries left currency unions; they experienced economically and statistically significant declines in bilateral trade, after accounting for other factors. Assuming symmetry, we estimate that a pair of countries that starts to use a common currency experiences a near doubling in bilateral trade.

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For G-7 countries over the period 1961-1990, there appears to be a strong and stable negative correlation between annual changes in the current account and investment. Here we explore this correlation using a highly tractable empirical model that distinguishes between global and country-specific shocks. This distinction turns out to be quite important empirically, as global shocks account for roughly fifty percent of the overall variance of productivity. An apparent puzzle, however, is that the current account seems to respond by much less than investment to country-specific productivity shocks. Given the near random walk behavior of these shocks, this observation would appear to contradict a central cross-equation inequality restriction implied by the intertemporal approach. We show analytically, however, that the theoretically-predicted current account response can be extremely sensitive to small changes in the degree of mean reversion in country-specific productivity; in general, the current account response is more sensitive than is the investment response. Our results thus support the view that there is a significant convergent component to country-specific productivity shocks.