Impact of productivity and price of tradables on investment and current account balance

This study investigates the effects tradables price shocks and productivity shocks had on the Asian Financial crisis. A theoretical model of intertemporal consumption, based on a small country with traded and nontraded goods, is observed. Such a model is integrated with Sargent's model of investment under uncertainty, leading to a model that explicitly solves for equilibrium in the nontradables sector. The model is tested on annual data of eight crisis-hit Asian countries from 1975 to 1996. Overall, the results support the hypotheses that the current account balance is positively affected by tradables price shocks and negatively affected by productivity shocks. The implication of these findings to the period just before the Asian crisis is that a drop in tradables prices places pressure on the balance of payments in the deficit direction while a slow down in productivity growth causes capital inflows to slow. This combination may create the right condition for the Asian Financial crisis.