Economic growth and income distribution with heterogeneous preferences on the real exchange rate

Abstract

We develop a dynamic model of capacity utilization and growth taking into account the codetermination of international competitiveness (measured by the real exchange rate) and income distribution. It follows that distribution, capacity utilization, and growth vary with the real exchange rate depending on the source of change in the latter. Meanwhile, the nominal exchange rate (markup) varies whenever the real exchange rate differs from the level preferred by the government (capitalists). While there is a medium-run equilibrium when capitalists and the government share a preferred real exchange rate, convergence to it is not ensured. Indeed, when the government is primarily concerned with preserving workers' share in income when managing the nominal exchange rate, a limit cycle arises: the economy goes through endogenous cyclical fluctuations in real exchange rate and growth that resemble the experience of several developing countries. Hence, growth regressions featuring the real exchange rate have to properly take into account the codetermination of the real exchange rate and the functional distribution of income.

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