Three Symptoms And A Cure: A Contribution To The Economics Of The Dutch Disease

This paper presents a dynamic model that gives an account of some of the forms that the Dutch Disease can take through both product and labour markets. These involve an effect of primary sector output - through real wages and the level and volatility of real-exchange rates - on secondary sector employment, output, and investment. We then look at data from Iceland - which is probably the only OECD country that may have a serious problem of this sort - and look for evidence supporting our hypotheses. We find a clear effect of primary sector output and its volatility on real wages but not on the real exchange rate, defined as a ratio of the prices of traded and non-traded goods. Moreover, real wages are shown to impede output, investment and employment in the secondary sector.