Empirical evidence suggests that the flexibility of labor supply is closely related to the dynamic adjustment of the real exchange rate. This paper investigates this relationship in a two-sector dependent economy model. While, the long-run equilibrium real exchange rate is independent of the...

We investigate the determinants of foreign borrowing costs in a stochastically growing economy. We find that these increase with the debt-wealth ratio, depending also upon the volatilities of domestic and foreign origin, and the length of debt contract. In addition, the sensitivity of the...

By specifying borrowing costs to increase with the debt to equity ratio we generate procyclical debt flows in response to terms of trade shocks, consistent with empirical evidence. Since procyclical capital flows attract unsustainably large capital inflows during favorable shocks and force...