Borders and business cycles

We document that business cycles of U.S. Census regions are substantially more synchronized than those of European countries. Data from regions within European countries confirm a European border effect - within-country correlations are substantially larger than cross-country correlations. These results continue to hold after controlling for exogenous factors such as distance and size. We consider the role of four factors that have received attention in the debate about EMU: sectoral specialization, the level of trade, monetary policy and fiscal policy. We find that the lower level of trade between European countries explains most of the observed border effect. (C) 2001 Elsevier Science BY All rights reserved.