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Are Windfalls a Curse? A Non-Representative Agent Model of the Current Account and Fiscal Policy

  • Aaron Tornell
  • Philip Lane

In several countries temporary terms of trade improvements have led to a deterioration of the current account. Furthermore, many of these countries failed to attain greater post-boom growth rates. The point we make is that the structure of the fiscal process is critical in determining outcomes. If fiscal control is unitary, then the consumption-smoothing effect is operative, and representative-agent models of the current account have predictive power. However, if control is divided among several fiscal claimants, a voracity effect appears which counteracts the consumption-smoothing effect, leading to a deterioration of the current account in response to a positive shock. We model the interaction among fiscal claimants as a dynamic game, and show that in equilibrium aggregate appropriation increases more than the windfall itself. This results in a deterioration of the current account. We also show that all the windfall is dissipated, with the country experiencing no increase in its growth rate. Lastly, we analyze the experiences of seven countries which have enjoyed large windfalls.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 4839.

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Date of creation: Aug 1994
Date of revision:
Publication status: published as Journal of International Economics, vol. 44, pp. 83-112, 1998,
Handle: RePEc:nbr:nberwo:4839
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