Trade, Investment and Debt in a Two-Country Growth Model

Abstract

We study a dynamic version of a Heckscher-Ohlin model with two countries, two factors and two sectors of production. It is based on the neoclassical growth model by Oniki and Uzawa (1965). We remove their balance of payments restriction by introducing an international market for equity shares of the type used by Hori and Stein (1977). We solve the indeterminacy problem of the capital market in case of factor price equalization by making explicit assumptions on the investment behavior. Two extreme cases are considered which correspond to different attitudes towards domestic versus foreign investment. The model has a unique and globally stable steady state with factor price equalization. Along the adjustment path international debt serves the purpose of increasing efficiency. In the long run holding foreign equity shares can bridge the gap between two possibly conflicting goals: efficiency requires similar factor endowments whereas different consumer preferences establish the need of an uneven income distribution. If consumers are different enough, there will be unbalanced trade and international debt in the long run.