This paper explores the interaction between trade and growth. In particular, we assume that the information of advanced technology is embodied within high-quality capital goods, which are produced by developed economies. Thus, the international technology diffusion goes through the channel of trading high quality capital goods, which establishes a direct causal linkage from trade to growth. The capital import is subject to a balance of payment constraint, and must be financed by exports. We define and characterize two types of steady states and illustrate the interaction between the balance of payments constraint and the optimal capital import condition.
We provide a conceptual and empirical framework for evaluating the effect of capital controls on long-term economic growth. In a small open economy which relies on successful investment projects to provide capital goods, borrowing short-term loans has two contradictory impacts: it reduces the interest costs of financing investment projects, but leads to larger asset losses in the scenario of short-term debt run. We show that private financing decisions made by domestic investors are distorted towards excessive risk-taking, leading to ineffective capital formation. Thus, capital control policies, particularly, regulations on short-term loans, can be socially beneficial as they alter the debt composition, promote capital formation, and achieve a higher output level. Finally, using a panel dataset covering 80 countries from 1995 to 2009, we employ a system GMM estimator to sequentially test three hypotheses and find strong empirical evidence that supports our theory.
This paper illuminates the role played by agricultural modernization in structural change. As workers leave traditional agriculture sector to settle down in modern agriculture sector and non-agriculture sectors, demand for capital goods temporally increases. Since the majority of capital goods comes from the manufacturing sector, the manufacturing employment share would first rise, then decline and converge to a generalized balanced growth path defined by Kongsamut, Rebelo, and Xie (2001). Our model generates hump-shaped patterns for manufacturing employment share and investment rate without assuming unbalanced technology growth.