These results are broadly confirmed when country size is measured by labor force and land area.

Given the importance of the level of development for business cycles characteristics reported in the literature (for instance, Neumeyer and Perri, 2005; Aguiar and Gopinath, 2007; Calderón and Fuentes, 2007, and others) we investigate to what extent our results for country size are driven by differences in the level of development between small and large economies. We find that controlling for the level of development, country size remains a significant factor affecting business cycle volatilities. Interestingly, we also show that controlling for country size, developing countries have significantly higher macroeconomic volatilities compared to developed economies. These results are consistent with the existing studies that focus on the properties of business cycles in developing countries.

Turning to correlations with GDP, we show a similar result: controlling for the level of development, it is still the case that the cyclicality of a number of macro aggregates varies with country size. We also find that, conditional on country size, developing countries tend to have less procyclical aggregate investment, consumption, imports, and inflation; and less countercyclical trade balance.<sup>4</sup> Interestingly, we find that the cyclicality of real interest rate with GDP is not affected by the level of development when country size is controlled for. On the fiscal side, we show that controlling for country size, fiscal balance and public revenues are less procyclical, while public expenditures are more procyclical with GDP in developing countries.

Lastly, we look at the persistence of various macroeconomic aggregates and their correlations with the real interest rate. We find that practically all effects of country size on these business cycle moments survive even after controlling for the level of development.

Overall, these results suggest that country size exerts a significant effect on business cycles dynamics and that this effect exists above and beyond the level of development effect that it potentially confounds.

To ensure that our results are not driven by other country characteristics we introduce additional controls into our regressions of business cycle moments on size and level of development. Specifically, we add the level of institutional development which is proxied by the International Country Risk Guide (ICRG) index; a dummy variable for commodity exporting countries; a dummy variable for countries with fixed exchange rate regime; a dummy variable for the presence of fiscal rule(s); and a set of regional dummies.<sup>5</sup> We find that the effects of country size remain mostly unchanged even after controlling for these additional country characteristics. These results confirm the importance of country size for characterizing business cycle dynamics.

Finally, given our larger interest in the role of fiscal rules in the economic stabilization of small economies, we compare the business cycles characteristics of countries that have adopted various

> 4 The lower countercyclicality of trade balance with GDP in developing countries may seem surprising in light of the results in Aguiar and Gopinath (2007). We confirm their finding of more countercyclical trade balance in the sample of 13 emerging market economies used in their analysis, and show that their findings do not extend to a larger sample of developing countries used in our study.

> 5 These are relevant characteristics because smaller countries are more likely to adopt a fixed exchange rate regime, are slightly more likely to be commodity exporters, and are less likely to adopt fiscal rules.

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