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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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File URL: http://eprints.lse.ac.uk/51557/
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Bibliographic Info

Paper provided by London School of Economics and Political Science, LSE Library in its series LSE Research Online Documents on Economics with number 51557.

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Length: 30 pages
Date of creation: 2013
Date of revision:
Handle: RePEc:ehl:lserod:51557

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References

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Cited by:
  1. Philip R. Lane, 2013. "Growth and Adjustment Challenge for the Euro Area," The Institute for International Integration Studies Discussion Paper Series iiisdp426, IIIS.
  2. Gianluca Benigno & Huigang Chen & Christopher Otrok & Alessandro Rebucci & Eric Young, 2013. "Capital Controls or Real Exchange Rate Policy? A Pecuniary Externality Perspective," Research Department Publications IDB-WP-393, Inter-American Development Bank, Research Department.
  3. Martin Berka & Michael B. Devereux, 2013. "Trends in European real exchange rates," Economic Policy, CEPR & CES & MSH, vol. 28(74), pages 193-242, 04.
  4. Matthieu Bussière & Claude Lopez & Cédric Tille, 2014. "Do Real Exchange Rate Appreciations Matter for Growth?," Kiel Working Papers 1922, Kiel Institute for the World Economy.
  5. Reis, Ricardo, 2013. "The Portuguese Slump and Crash and the Euro Crisis," CEPR Discussion Papers 9591, C.E.P.R. Discussion Papers.

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