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Capital Account Openness and the Losses from Financial Frictions

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  • Minsoo Han

    (Pennsylvania State University)

Abstract

The goal of this paper is to isolate the role of openness to international financial markets (capital account openness) on the total factor productivity (TFP) effect of financial frictions. To do so, I formulate a model in which individual households are either workers or entrepreneurs, can only save in the form of capital, and entrepreneurs are subject to a collateral constraint. Using this structure, I compare two steady states of a calibrated model numerically: one in which the capital rental rate must clear a domestic capital rental market (closed economy), and one in which that rate is given by the world (small open economy). The model predicts that a small open economy is affected less by financial frictions than a closed economy: for the tightest collateral constraint, TFP in a small open economy is only about 1% lower than in the economy without a collateral constraint, while it is 15% lower in a closed economy. TFP losses in a small open economy reflect factor misallocation among incumbent entrepreneurs (intensive margin), not distortions along entry-exit margin, whereas for a tight financial frictions, there are distortions on both intensive and entry-exit margins in a closed economy. Using macro data, I find that a 1% rise in openness is associated with 0.196% decline in the effect of financial frictions on TFP. Running the same regression on subsamples, I also find that this empirical result mainly comes from a group of low income countries.

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  • Minsoo Han, 2013. "Capital Account Openness and the Losses from Financial Frictions," 2013 Meeting Papers 485, Society for Economic Dynamics.
  • Handle: RePEc:red:sed013:485
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    References listed on IDEAS

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    1. Joaquin Blaum, 2012. "Wealth Inequality and the Losses from Financial Frictions," 2012 Meeting Papers 1077, Society for Economic Dynamics.
    2. Aoki, Kosuke & Benigno, Gianluca & Kiyotaki, Nobuhiro, 2010. "Adjusting to Capital Account Liberalization," CEPR Discussion Papers 8087, C.E.P.R. Discussion Papers.
    3. Robert E. Hall & Charles I. Jones, 1999. "Why do Some Countries Produce So Much More Output Per Worker than Others?," The Quarterly Journal of Economics, Oxford University Press, vol. 114(1), pages 83-116.
    4. George-Marios Angeletos & Vasia Panousi, 2011. "Financial Integration, Entrepreneurial Risk and Global Imbalances," NBER Working Papers 16761, National Bureau of Economic Research, Inc.
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