Wealth, structural adjustment and optimal recovery from the Dutch disease

Abstract

We analyse how an oil-exporting economy producing traded and non-traded goods should adjust when its oil wealth depreciates unexpectedly and intersectoral transfer of labour is costly. Optimal adjustment involves decreasing consumption and a gradual loss of non-human wealth before a new long-run equilibrium is established. In the short run the relative price of non-traded goods undershoots its long-run equilibrium. Moreover, the competitive wage differential widens initially and then gradually decreases. An external borrowing constraint will slow down the optimal adjustment process. The long-run implications of a borrowing constraint are higher consumption of both goods and a smaller sector producing traded goods.