The Implications of Knowledge-Based Growth for the Optimality of Open Capital Markets

This paper reexamines the view that opening capital markets must have long-run benefits. The analysis shows that the desirability of opening a country's capital markets depends on the nature of the technology assumed. Models of knowledge-based growth predict that changes which alter the economy's level of production will also affect the economy's growth rate and hence the welfare of future generations. Standard neoclassical growth models imply no such effects on growth or welfare. If production does involve an important element of learning by doing, inference from the standard models may be seriously misleading. In particular, opening capital markets does not necessarily improve welfare for the nation or for the world as a whole.