Uncertain Duration of Reform: Dynamic Implications

24 Pages Posted: 9 May 2000 Last revised: 5 Oct 2010

See all articles by Guillermo A. Calvo

Guillermo A. Calvo

Columbia University - School of International & Public Affairs (SIPA); National Bureau of Economic Research (NBER)

Allan Drazen

University of Maryland - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Date Written: February 1997

Abstract

We develop a framework to study the effects of policies of uncertain duration on consumption dynamics under both complete and incomplete markets. We focus on the dynamic implications of market incompleteness, specifically on the lack of state-contingent bonds. Two policies are considered: pure output-increasing and tariff-reducing (trade liberalization). With" complete markets, the output-increasing policy leads to flat consumption, while with no contingent assets, consumption jumps upward on the announcement of the policy, continues rising as long as the policy is in effect, and collapses when it is abandoned. A similar consumption path obtains in a trade liberalization in the realistic case of low elasticity of substitution and no rebate of tariffs. Market incompleteness rationalizes the existence of gradual changes in consumption.

Suggested Citation

Calvo, Guillermo A. and Drazen, Allan, Uncertain Duration of Reform: Dynamic Implications (February 1997). NBER Working Paper No. w5925. Available at SSRN: https://ssrn.com/abstract=225706

Guillermo A. Calvo (Contact Author)

Columbia University - School of International & Public Affairs (SIPA) ( email )

420 West 118th Street
New York, NY 10027
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Allan Drazen

University of Maryland - Department of Economics ( email )

College Park, MD 20742-1815
United States
301-405-3477 (Phone)
301-405-7835 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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