The purpose of this paper is to present a model of imports and exports of invisibles for the 14 major industrial countries: Austria, Belgium (including Luxembourg), Canada, Denmark, France, the Federal Republic of Germany, Italy, Japan, the Netherlands, Norway, Sweden, Switzerland, the United Kingdom, and the United States. The model is the second of two parts of the world trade model developed by the Fund’s Research Department to explain current account transactions of industrial countries. The first part deals with merchandise trade flows and was presented in Deppler and Ripley (1978). The present model is similar to its counterpart for merchandise trade in that it is essentially short run in nature. Thus, the approach involves attempts to precisely identify cyclical and other short-run factors and to separate them from long-run factors. Applications of the model include short-term forecasting (6 to 18 months ahead) and simulation of the effects of variations in growth rates, rates of inflation, and exchange rates.
To our knowledge, no relatively disaggregated world model of flows of invisibles has ever been constructed. Given the important role such flows have come to play in many countries in recent years,1 this gap can be explained only by the numerous statistical and conceptual difficulties involved. While a number of empirical studies on transactions in invisibles have appeared over the past two decades, these studies have generally focused on international flows of aggregated or disaggregated invisibles for a particular country, or flows of a particular group of invisibles (such as travel or transportation) for one country or a group of countries. 2 A complete multicountry analysis of disaggregated groups of services, however, is necessary if the cross-country interdependence of the flows is to be taken into account. Furthermore, a study that applies the same methodology to all countries is also needed if meaningful cross-country comparisons of results are to be made.
The model presented in this paper is currently limited to 14 industrial countries as a consequence of the paucity of the data for the remaining countries. At a later date, the model may be closed by including all countries or country groupings. Two alternative approaches to the specification of export equations for individual invisible items are adopted in the paper. In the first approach, called the unrestricted approach, separate bilateral functions for a country’s exports of invisibles to each importing country are summed over each importing market to obtain an aggregate export equation. This approach is called unrestricted because imports are not predetermined and therefore are not constrained to equal exports. The second approach, called the market shares approach, takes imports of the various countries as predetermined and determines a country’s export share by such factors as relative prices and exchange rates. The market shares approach is used for categories of invisibles for which information on market shares in a base period is available, and for which the market share structure moves slowly over time according to changing factors, such as relative prices. In all other cases, the unrestricted approach is used.
When specifying the model, the serious data constraints that limit any empirical study on invisibles have to be recognized. Thus, invisibles are subdivided into only six broad groups, namely, freight transportation, travel and passenger transportation, other services, investment income, workers’ earnings and remittances, and transfers. These broad groupings of invisibles are thought to be more appropriate than aggregate invisibles for the following reasons: (a) Invisibles can be dichotomized into items for which an income is received (investment income, workers’ earnings and remittances, and transfers) and items that involve an expenditure (freight transportation, travel and passenger transportation, and other services); variables that determine income items will be different from those that determine expenditure items, (b) Within income and expenditure items, imports and exports of the different individual groups considered are likely to be determined by different exogenous variables.
The organization of the paper is as follows. Section I contains the general specification of the model and the individual basic equations for the six groups of invisibles. Section II presents the parameter estimates, together with a discussion of the model results. Section III contains a summary and concluding remarks. The Appendix provides information on data compilation, use of proxy variables, and the arrangement of country data in the standard framework. Complete documentation of the data sources is available upon request from the author, whose address is Research Department, International Monetary Fund, Washington, D.C. 20431.