Controlled Open Economies

This book, a companion volume to "Peasants and Governments" by the same authors, develops macroeconomic theory for small open economies characterized by the sort of controls which make much of existing neoclassical economics inapplicable to developing countries. It distinguishes between sustainable combinations of policies and incompatible control regimes. Many developing countries not only have complex control regimes, but are subject to periodic, powerful trade shocks. Unless offset by policy changes shocks can make the control regime incompatible. The authors analyse the changes needed to maintain compatibility and the consequences of failing to do so. They also consider the optimal time path of investment in response to a temporary shock and how this path is affected by controls. The second half of the book contains an analysis of two temporary trade shocks in Africa, in both compatible and incompatible control regimes, demonstrating the applicability of the theory. It is shown that in a compatible regime, both that regime itself and the fiscal response to changes in revenue may make the reaction to a shock grossly inefficient.
Under incompatibility, an economy exposed to a negative shock may go into a steep decline, while responses to conventional policies can be perverse.