Absorbing A Windfall Of Foreign Exchange: Dutch disease dynamics
AbstractThe response of an economy to a windfall of foreign exchange (be it aid or natural resource revenues) is often constrained by absorptive capacity. We provide a micro-founded analysis of absorption constraints, based on the idea that expanding the economy's capital stock (in aggregate or sectorally) requires non-traded inputs, the supply of which is constrained by the initial capital stock. Given this constraint, the economy will manifest 'Dutch disease' symptoms, although many of them are temporary. On impact there is sharp appreciation of the real exchange rate, which will then depreciate back to its equilibrium level. In contrast to the permanent income hypothesis, real consumption jumps part of the way to its new long-run level, and then continues to rise. Depending on the capital-intensity of the investments needed for the adjustment, the economy may run a current account deficit or surplus in early years.
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Bibliographic InfoPaper provided by Oxford Centre for the Analysis of Resource Rich Economies, University of Oxford in its series OxCarre Working Papers with number 052.
Date of creation: 2010
Date of revision:
absorptive capacity; absorption constraints; windfall; aid; natural resources; Dutch disease;
Other versions of this item:
- van der Ploeg, Frederick & Venables, Anthony J., 2013. "Absorbing a windfall of foreign exchange: Dutch disease dynamics," Journal of Development Economics, Elsevier, vol. 103(C), pages 229-243.
- van der Ploeg, Frederick & Venables, Anthony J., 2010. "Absorbing A Windfall of Foreign Exchange: Dutch disease dynamics," CEPR Discussion Papers 8086, C.E.P.R. Discussion Papers.
- E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
- E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Capital; Investment; Capacity
- F10 - International Economics - - Trade - - - General
- F35 - International Economics - - International Finance - - - Foreign Aid
- H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt
- O11 - Economic Development, Technological Change, and Growth - - Economic Development - - - Macroeconomic Analyses of Economic Development
- O16 - Economic Development, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
- Q33 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Nonrenewable Resources and Conservation - - - Resource Booms (Dutch Disease)
This paper has been announced in the following NEP Reports:
- NEP-ALL-2010-11-27 (All new papers)
- NEP-ENE-2010-11-27 (Energy Economics)
- NEP-MAC-2010-11-27 (Macroeconomics)
- NEP-OPM-2010-11-27 (Open Economy Macroeconomic)
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