Staff Report 521

The Interaction and Sequencing of Policy Reforms

Jose Asturias
Sewon Hur | Federal Reserve Bank of Cleveland
Timothy J. Kehoe | Consultant
Kim J. Ruhl

Published November 18, 2015

In what order should a developing country adopt policy reforms? Do some policies complement each other? Do others substitute for each other? To address these questions, we develop a two-country dynamic general equilibrium model with entry and exit of firms that are monopolistic competitors. Distortions in the model include barriers to entry of firms, barriers to international trade, and barriers to contract enforcement. We find that a reform that reduces one of these distortions has different effects depending on the other distortions present. In particular, reforms to trade barriers and barriers to the entry of new firms are substitutable, as are reforms to contract enforcement and trade barriers. In contrast, reforms to contract enforcement and the barriers to entry are complementary. Finally, the optimal sequencing of reforms requires reforming trade barriers before contract enforcement.

Published In: Journal of Economic Dynamics and Control (Vol. 72, November 2016, pp. 45-66)

Download Paper (pdf)