Status Seeking in the Small Open Economy

In our modified version of the small open economy Ramsey model, we assume that agents have preferences over consumption and status which, in turn, is determined by relative wealth. This extension potentially eliminates the standard model's counterfactual result that an impatient country over time mortgages all of its capital and labor income. We show that the steady-state values of net assets and consumption, the speed of convergence and, in particular, the direction of adjustment during the transition depend crucially upon the degree of status consciousness. The latter also influences the economy's response to macro-economic shocks.