Political business cycle theories generally rely on nominal rigidities and voter myopia. This paper offers an equilibrium theory with preserves some basic insights from earlier models, though with significant refinements. The "political budget cycle" emphasized here is in fiscal policy rather than output and inflation; it arises via a multidimensional signal process. One can consider the welfare implications of proposals to mitigate the cycle, and the effects of altering the electoral structure.
ArticleWe develop an open-economy of intertemporal trade under asymmetric information. Capital market imperfections are endogenous and depend on a county's stage of economic development. Relative to the perfect-information benchmark, North-South capital flows are dampened (and possibly reversed) and world interest rates are lower. Whereas riskless rates are equalized across borders, the domestic loan rate is higher in poorer countries. The model can be applied to a number of policy issues including the debt-overhang problem, the indexation of foreign public debts, and the effect of income on distribution growth.
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