External capital flows and welfare in developing countries

This dissertation studies the welfare effects of external capital flows in small open developing countries. Welfare cost of macroeconomic volatility in the developing countries is larger than that in the developed countries. Further, most of this macroeconomic volatility is a result of exogenous shocks. External capital flows have the potential to reduce these fluctuations.;Chapter II of my dissertation studies potential welfare gains of indexing aid flows to exogenous terms of trade (TOT) shocks while keeping the average level of aid constant. In a recent paper Pallage, Robe and Berube show that, in a two country endowment economy model with an altruistic donor country maximizing its lifetime utility, at least three-fourths of the large welfare costs of macroeconomic volatility could be alleviated by a simple reallocation of aid flows across time.;I use a dynamic general equilibrium model of a small open economy (S.O.E) facing shocks and receiving a stochastic amount of aid. In this set-up indexing aid flows to the TOT shocks reduces the cost of business cycle fluctuations in the recipient country by ninety-five percent.;Chapter III analyzes the long term behavior of relative commodity. Using the data for ten primary agricultural commodities over the period 1957-2004, I find a significant deterioration in the downward trend in the relative price of these commodities in recent years. I also find evidence for an increase in the volatility of relative prices. Finally, while the shocks to these prices are persistent for most commodities in question, they are certainly not permanent. These findings have important implications for the policy makers in the commodity export dependent countries.;Chapter IV looks at the issue of commodity price indexed bonds in the case of Heavily Indebted Poor Countries. The debilitating impact of the debt burden faced by H.I.P.Cs has regained attention. I propose that the debt service payments of the H.I.P.Cs be indexed to the export revenue of the country after making allowance for the basic human needs. This partially completes the asset markets and therefore improves the welfare of the developing country.;Keywords: External Capital Flows, Welfare, Developing Countries.