Abstract
We add to the GTAP model a financial module built around an 18-region asset-liability matrix. A financial agent in each region takes account of expected rates of return in allocating the regions financial budget between domestic capital and financial assets in each other region. Using GTAP with the financial module in place, we simulate financial decoupling between the U.S. and China. The results show that the U.S. would gain by limiting its financial flows to China, leading to a redirection of finance to the domestic economy. This would stimulate investment in the U.S. with favorable effects on employment, capital stocks, real GDP, wealth, and real wage rates. At the same time investment in China would decline with negative effects on the Chinese economy. Similarly, China would gain by limiting its financial flows to the U.S. and the U.S. would lose. In a tit-for-tat situation in which each country reduces its financial asset holding in the other country by x per cent, the winner would be China. We conduct additional simulations to compare the effects of trade decoupling with those of financial decoupling.
Highlights
Chilling of economic relations between the U.S and China has led to a stream of GTAP-based papers on the effects of trade restrictions between the two countries, see for example, Tsutsumi (2019), Vanzetti et al (2020) and Itakura (2020).5 Trade is not the only economic aspect of the U.S.-China relationship that could be decoupled
By creating GTAP-Fin, we have extended the range of GTAP applications to include analyses of policies in which a country aims to discriminate in favor or against financial flows with another country
Using GTAP-Fin, we showed in section 3 that the U.S would gain by limiting its financial flows to China, leading to a redirection of finance to the domestic economy
Summary
Chilling of economic relations between the U.S and China has led to a stream of GTAP-based papers on the effects of trade restrictions between the two countries, see for example, Tsutsumi (2019), Vanzetti et al (2020) and Itakura (2020). Trade is not the only economic aspect of the U.S.-China relationship that could be decoupled. Chilling of economic relations between the U.S and China has led to a stream of GTAP-based papers on the effects of trade restrictions between the two countries, see for example, Tsutsumi (2019), Vanzetti et al (2020) and Itakura (2020).. Trade is not the only economic aspect of the U.S.-China relationship that could be decoupled. There is an extensive financial relationship with large financial flows in both directions. Over the last couple of years, the possibility of financial decoupling has been discussed actively in policy circles. Commentaries include Lardy and Huang (2020), Scissors (2020) and Takita (2020). The discussion of financial decoupling has not been informed by modeling results
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