Effects of Financial Autarky and Integration: The Case of the South Africa Embargo

Abstract

The economic embargo imposed on South Africa between 1985 and 1993 brought the country closer to financial isolation. This paper interprets the imposition and removal of the embargo as financial autarky and financial integration 'natural experiments,' and studies the effects on the economy. The aggregate data indicate a decrease in the levels and growth rates of investment, capital, and output during the embargo period relative to the pre-embargo and post-embargo periods. To further rationalize the findings in the aggregate data, we calibrate a neoclassical growth model to the South African economy. During the transition to steady-state, we model the embargo by limiting the country’s ability to borrow for a period corresponding to the duration of the embargo. The derived dynamics for investment, capital, and output support the view of a positive (negative) link between financial integration (isolation) and economic growth.