We propose a tractable variant of the open economy neoclassical growth model that emphasizes political economy and contracting frictions. The political economy frictions involve a preference for immediate spending, while the contracting frictionis a lackof commitment regarding foreigndebt and expropriation. We show that the political economy frictions slow an economy's convergence to the steady state due to the endogenous evolution of capital taxation. The model rationalizes why openness has different implications for growth depending on the political environment, why institutions such as the treatment of capital income evolve over time, why governments in countries that growrapidly accumulate net foreign assets rather than liabilities, andwhy foreign aidmay not affect growth.
All Science Journal Classification (ASJC) codes
- Economics and Econometrics