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The Financial Resource Curse

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  • Gianluca Benigno
  • Luca Fornaro

Abstract

This paper presents a model of financial resource curse, i.e. episodes of abundant access to foreign capital coupled with weak productivity growth. We study a two-sector, tradable and non-tradable, small open economy. The tradable sector is the engine of growth, and productivity growth is increasing in the amount of labor employed by firms in the tradable sector. A period of large capital inflows, triggered by a fall in the interest rate, is associated with a consumption boom. While the increase in tradable consumption is financed through foreign borrowing, the increase in non-tradable consumption requires a shift of productive resources toward the non-tradable sector at the expenses of the tradable sector. The result is stagnant productivity growth. We show that capital controls can be welfare-enhancing and can be used as a second best policy tool to mitigate the misallocation of resources during an episode of financial resource curse.

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Bibliographic Info

Article provided by Wiley Blackwell in its journal Scandinavian Journal of Economics.

Volume (Year): 116 (2014)
Issue (Month): 1 (01)
Pages: 58-86

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Handle: RePEc:bla:scandj:v:116:y:2014:i:1:p:58-86

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Web page: http://onlinelibrary.wiley.com/journal/10.1111/(ISSN)1467-9442

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References

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Citations

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Cited by:
  1. Reis, Ricardo, 2013. "The Portuguese Slump and Crash and the Euro Crisis," CEPR Discussion Papers 9591, C.E.P.R. Discussion Papers.
  2. Gianluca Benigno & Huigang Chen & Christopher Otrok & Alessandro Rebucci & Eric R. Young, 2013. "Capital Controls or Real Exchange Rate Policy?: A Pecuniary Externality Perspective," IDB Publications 80682, Inter-American Development Bank.
  3. Philip R. Lane, 2013. "Growth and Adjustment Challenge for the Euro Area," The Institute for International Integration Studies Discussion Paper Series iiisdp427, IIIS.
  4. Martin Berka & Michael B. Devereux, 2013. "Trends in European real exchange rates," Economic Policy, CEPR & CES & MSH, vol. 28(74), pages 193-242, 04.

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