Capital mobility and underdevelopment traps

In a two-country model with threshold effects, we study the robustness of underdevelopment traps to capital mobility. It is shown that capital mobility can make a country cross the threshold and bifurcate toward sustained growth, subject to household expectations. Another result is, however, that a multiplicity of growth patterns such as long-run divergence and convergence clubs can co-exist with perfect capital mobility, hence with an identical rate of return across countries. In this model, efficient development policies are a combination of, first, liberalization-as capital mobility makes growth possible-and, second, government intervention coordinating expectations into self-fulfilling growth beliefs. (C) 2003 Elsevier Science B.V. All rights reserved.