CoPS/IMPACT Working Paper Number G-309

Title: The Effects of Financial Decoupling of the U.S. and China: Simulations with a Global Financial CGE Model

Authors: P.B. Dixon, J.A. Giesecke, J. Nassios, and M.T. Rimmer


We add a financial module to the GTAP model, built around an 18-region asset-liability matrix. We simulate financial decoupling between the U.S. and China. We find that the U.S. would gain by limiting its capital flows to China, leading to a redirection of finance to the domestic economy. This would stimulate investment in the U.S. with favorable effects on employment, capital stocks, real GDP, wealth and real wage rates. At the same time investment in China would decline with negative effects on the Chinese economy. Similarly, China would gain by limiting its capital flows to the U.S. and the U.S. would lose. In a tit-for-tat situation in which each country reduces it financial-asset holding in the other country by x per cent, the winner would be China. We conduct additional simulations to compare the effects of trade decoupling with those of financial decoupling.

JEL classification: C68, F17, F37, F51

Keywords: Financial decoupling; U.S.-China economic relations; Trade decoupling; Financial module in GTAP; CGE simulations

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