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Joseph Francois is a professor at the University of Linz and a CEPR fellow. Clinton Shiells is with the IMF Institute and Joint Vienna Institute. The views expressed herein are strictly those of the authors and do not necessarily represent the views or policies of the International Monetary Fund, Joint Vienna Institute, World Bank, or any other institution with which the authors may be affiliated.
See Caselli and Ventura (2000) for a discussion in a more general case. From their paper, if government consumption is introduced with exogenous price growth and if households have a heterogeneous endowment of productivities, then relative rankings may reverse in the path to steady state.
Bajona and Kehoe (2006b) provide an alternative proof, based on monotonicity, that the initial ranking of countries’ capital/labor ratios persists.
We assume here that individual agents do not incorporate the evolution of terms of trade effects into their optimization problem. This does imply opportunities for public policy beyond the scope of this paper. It is also consistent with competitive behavior on the part of agents.