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Capital accumulation and real exchange rate behavior in a small open economy with credit market frictions

Elisabeth Huybens () and Gaetano Antinolfi ()
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Elisabeth Huybens: Centro de InvestigaciÕn EconÕmica, ITAM, Mexico D.F. 10700, MEXICO

Economic Theory, 1998, vol. 12, issue 3, 488 pages

Abstract: We consider the nature of the relationship between the real exchange rate and capital formation. We present a model of a small open economy that produces and consumes two goods, one tradable and one not. Domestic residents can borrow and lend abroad, and costly state verification (CSV) is a source of frictions in domestic credit markets. The real exchange rate matters for capital accumulation because it affects the potential for investors to provide internal finance, which mitigates the CSV problem. We demonstrate that the real exchange rate must monotonically approach its steady state level. However, capital accumulation need not be monotonic and real exchange rate appreciation can be associated with either a rising or a falling capital stock. The relationship between world financial market conditions and the real exchange rate is also investigated.

Keywords: Real; exchange; rate; ·; Capital; accumulation; ·; Credit; marker; friction. (search for similar items in EconPapers)
Date: 1998-10-13
Note: Received: October 3, 1997; revised version: October 23, 1997
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Working Paper: Capital Accumulation and Real Exchange Rate Behavior in a Small Open Economy with Credit Market Frictions (1996)
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