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Optimal borrowing constraints and growth in a small open economy

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  • Michaud, Amanda
  • Rothert, Jacek

Abstract

Chinese high growth has been accompanied by government restrictions on international borrowing (capital controls). In this paper, we ask: are such restrictions a useful policy tool to facilitate growth? We provide a theory of borrowing constraints on households as a tool to correct a learning-by-doing externality. Borrowing constraints operate as a policy tool through two channels: (i) increasing labor supply and (ii) reallocating labor towards traded goods. We find that welfare gains are closest to that of the First-Best Planner allocation when the externality is not too large. We compute the sequence of optimal constraints along the growth path and show how the use of this policy tool contributes to repressed wages, current account balance, and slow real exchange rate appreciation.

Suggested Citation

  • Michaud, Amanda & Rothert, Jacek, 2014. "Optimal borrowing constraints and growth in a small open economy," Journal of International Economics, Elsevier, vol. 94(2), pages 326-340.
  • Handle: RePEc:eee:inecon:v:94:y:2014:i:2:p:326-340
    DOI: 10.1016/j.jinteco.2014.07.001
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    3. Korinek, Anton & Servén, Luis, 2016. "Undervaluation through foreign reserve accumulation: Static losses, dynamic gains," Journal of International Money and Finance, Elsevier, vol. 64(C), pages 104-136.
    4. Rabe, Collin, 2016. "Capital controls, competitive depreciation, and the technological frontier," Journal of International Money and Finance, Elsevier, vol. 68(C), pages 74-102.
    5. Rothert, Jacek, 2016. "On the savings wedge in international capital flows," Economics Letters, Elsevier, vol. 145(C), pages 126-129.

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    More about this item

    Keywords

    Learning-by-doing; Borrowing constraints; Chinese economy; Capital controls;
    All these keywords.

    JEL classification:

    • O41 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - One, Two, and Multisector Growth Models
    • F43 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Economic Growth of Open Economies

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