Uncertainty, Trade, and Capital Flows in Sub-Saharan Africa

John T. Cuddington, Hong Liang and Shihua Lu
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John T. Cuddington: Economics Department Georgetown University
Hong Liang: Economics Department Georgetown University
Shihua Lu: Economics Department Georgetown University

International Finance from EconWPA

Abstract: In most African economies, both agricultural production and the terms- of-trade are highly uncertain. This paper re-examines the implications of such uncertainty for the optimal mix of production and trade under alternative assumptions about international capital flows. The ultimate objective is to explore the possible effects of increased financial integration on real economic activity in developing countries. In the presence of uncertainty and limited international capital flows, diversifying production -- and exports -- rather than specializing according to comparative advantage may be desirable depending on a country’s degree of risk aversion. Once international borrowing and lending becomes available, however, it may provide a more efficient mechanism for coping smoothing consumption in the face of income fluctuations than does diversifying production and exports. The ability to trade equity securities (which represent claims on uncertain future production) in world capital markets permits additional risk sharing possibilities. In some circumstances where equities trade is well- developed, production diversification completely unnecessary. That is, production and price uncertainty can be efficiently hedged through portfolio diversification instead of production diversification.

Keywords: uncertainty. trade; capital flows; Sub-Saharan Africa (search for similar items in EconPapers)
JEL-codes: F1 F2 O0 (search for similar items in EconPapers)
Date: 1996-02-16
Note: Type of Document - WordPerfect; prepared on IBM PC ; to print on HP; pages: 54 ; figures: included. Invited paper for the Plenary session of the African Economic Research Consortium's (AERC) Research Workshop on "Economic Consequences of Real and Nominal External Shocks in Sub-Saharan Africa" in Nairobi, Kenya in May 1995. GU working paper #95-01. Forthcoming in Journal of African Economies and in an AERC volume to be published by Oxford University Press.
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