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The Financial Resource Curse

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Author Info

  • 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

Paper provided by Centre for Economic Performance, LSE in its series CEP Discussion Papers with number dp1217.

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Date of creation: May 2013
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Handle: RePEc:cep:cepdps:dp1217

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Web page: http://cep.lse.ac.uk/_new/publications/series.asp?prog=CEP

Related research

Keywords: Capital flows; capital controls; financial resource curse; endogenous growth;

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References

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Citations

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Cited by:
  1. Matthieu Bussière & Claude Lopez & Cédric Tille, 2014. "Do Real Exchange Rate Appreciations Matter for Growth?," IHEID Working Papers 06-2014, Economics Section, The Graduate Institute of International Studies.
  2. Eric Young & Alessandro Rebucci & Christopher Otrok, 2013. "Capital Controls or Real Exchange Rate Policy? A Pecuniary Externality Perspective," 2013 Meeting Papers 641, Society for Economic Dynamics.
  3. Reis, Ricardo, 2013. "The Portuguese Slump and Crash and the Euro Crisis," CEPR Discussion Papers 9591, C.E.P.R. Discussion Papers.
  4. Philip R. Lane, 2013. "Growth and Adjustment Challenge for the Euro Area," The Institute for International Integration Studies Discussion Paper Series iiisdp427, IIIS.
  5. 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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