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Adjusting to Capital Account Liberalization

Author

Listed:
  • Kosuke Aoki
  • Gianluca Benigno
  • Nobuhiro Kiyotaki

Abstract

We study theoretically how the adjustment to liberalization of international financial transaction depends upon the degree of domestic financial development. Using a model with domestic and international borrowing constraints, we show that, when the domestic financial system is underdeveloped, capital account liberalization is not necessarily beneficial because TFP stagnates in the long-run or employment decreases in the short-run. Government policy, including allowing foreign direct investment, can mitigate the possible loss of employment, but cannot eliminate it unless the domestic financial system is improved.

Suggested Citation

  • Kosuke Aoki & Gianluca Benigno & Nobuhiro Kiyotaki, 2010. "Adjusting to Capital Account Liberalization," CEP Discussion Papers dp1014, Centre for Economic Performance, LSE.
    • Handle: RePEc:cep:cepdps:dp1014
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    Keywords

    credit frictions; capital account liberalization;

    JEL classification:

    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements

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