A standard DSGE small open economy model can not generate the
cyclical regularities of middle-income countries. It predicts
excessive consumption smoothing, and procyclical, instead of
countercyclical, real net exports. Previous studies have solved
this problem by increasing the shocks' persistence or by lowering
the intertemporal elasticity of substitution. This paper tackles
the problem by introducing market imperfections relevant for MICs
into an otherwise standard model. More specifically, I build a
model with limited access to the foreign capital market, identified
as an external borrowing constraint, and asymmetric financing
opportunities across nontradable and tradable sectors, identified
as a sector-specific labor financing wedge. The key parameters
associated to these frictions are deduced to replicate selected
data for Chile between 1986 and 2004. I find that both frictions
are necessary to replicate the cyclical regularities of
middle-income countries as they help the model reproduce different
features of the data: The external borrowing constraint makes
investment and consumption of tradable goods more procyclical and
volatile, and makes real net exports countercyclical, while the
sector-specific labor financing wedge makes the model reproduce the
cyclical moments of work hours and consumption of non tradable
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