Title: Multinational Firms, Trade, and the Trade-Comovement Puzzle
Abstract: Existing empirical studies show a strong positive correlation between bilateral trade and business cycle comovement within country-pairs. I show that for OECD economies, this relationship weakens considerably when bilateral FDI stock is controlled for, while FDI is significant. I develop a two-country business cycle model with heterogeneous firms, international trade, and multinational activity to explain this empirical finding. The calibrated model generates the positive relationship between trade and comovement, and between FDI and comovement. In addition, the simulation results are consistent with the empirical regressions with both trade and FDI.