“Financial Development and the Effects of Trade Liberalizations”

We investigate the extent to which financial frictions shape the effects of a trade liberalization on aggregate output, exports and capital accumulation. We study a small open economy populated with heterogeneous entrepreneurs who differ in their productivity and are subject to financing constraints. Individuals choose whether to be workers or entrepreneurs, and entrepreneurs choose their sector (tradable or non-tradable) and whether to export or not. We show how financial frictions distort these decisions. We calibrate the model to match key features of Chilean plant-level data and use it to quantify the effects on aggregate variables. We then investigate how the presence of financial constraints affects the output gains from a trade liberalization. We find that the response of prices and higher incentives to save undo the effects of tighter financial frictions: the higher profits that result from a trade liberalization allow firms to accumulate assets and relax their credit constraint, which is particularly valuable in economies where firms are severely constrained.