Trade and capital-account liberalization in a keynesian economy

Abstract

This paper analyzes the process of trade and capital-account liberalization in a Keynesian framework with unemployed resources. Previous studies on this subject have ignored the potential interactions between the liberalization process and the pre-existing distortions in the economy. This paper derives the optimal liberalization policy (given the Keynesian context) and solves for explicit formulas for the import tariffs and the capital-account tax in a two-period general equilibrium model. It is argued that a trade reform is likely to have recessionary effects in the short run if the capital account has already been liberalized.