Recession dynamics following an external price shock in a transition economy

Abstract

This paper develops and discusses a two-sector general equilibrium growth model of a ‘transition economy’ that is subjected to an external price shock. The assumed behavioural characteristic of such an economy is the presence of a distributional rigidity rather than the commonly assumed nominal or real wage rate rigidity. The production structure is of the Leontief type. It is shown that under limited mobility of resources the response to an adverse price shock for an imported commmodity is a recession. The paper provides a thoeretical insight into the causes of a recession and analyical expressions for its size. It also provides an analysis of post-shock growth contingent on alternative wage shares and the possible trade-offs between short- and long-run unemployment rates.