Question: Suppose as in Chapter that in the first model in

Suppose, as in Chapter that in the first model in this chapter there is limited commitment in the credit relationships between the small open economy and the rest of the world. There is some portion of the nation’s capital stock, denoted by Kc, which is collateralizable on world markets. This collateralizable capital is illiquid in the current period and is valued at price p on world markets in the future period. Assume that borrowing by the SOE on world markets is limited by the value of collateralizable wealth in the future period. Now, suppose that p falls. How does this affect consumption in the SOE in the present and the future, and the current account surplus? Explain your results with the aid of diagrams.

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