WIDER Discussion Papers // World Institute for Development Economics (UNU-WIDER) 2001/50
By globalization we mean an external shock; specifically an increased world demand for various goods (or bads) including the products and services which are illegal. We analyse the effects of these shocks on growth and capital stocks by utilizing two different models. The first examines an exogenous shock in the context of a single country macroeconomic Ramsey growth model. The shadow activity generally has a negative impact on productivity and the capital stock. But its effect on consumption is much more ambiguous, depending on whether it generates positive or negative revenues in the domestic economy. The other model considers a two-region North-South model, along the lines of the Findlay (1980) model, where it is the South that produces the criminal good, and the North that consumes it. Unlike in the first model, the production of the illicit commodity does not directly detract from the capital stock, as it only utilizes surplus labour from the hinterland. The effect on equilibrium capital stock, however, occurs via changes in the wage-rental ratio. This in turn will affect steady-state growth rates in the two regions. An increase in illicit sector activity that is mainly expropriated by warlords leads to an unambiguous loss to the South in terms of capital stock, terms of trade, and the real compensation of workers. Increased migration from South to the North raises the South's terms of trade, and there is more investment from North to South.