Modeling of imperfect goods and financial market integration and current account in an interest free open economy

Abstract

This paper examines how goods and financial markets influence the behavior of current account. The model introduces Sukuk as interest free and flexible rate assets Shocks to money, uncovered interest parity (UIP), and net investment income are analyzed in the interest free open economy using dynamic general equilibrium framework. The results show that impact of shocks is influenced by the market integrations. The higher the goods market integration is, the higher the impact of monetary, UIP deviation and net investment income shocks on the current account. On the other hand, UIP shocks relate the financial market integration and the current account. The more integrated the financial market is, the less the impact of the UIP shock on current account. However, monetary and net investment income shocks cannot be linked directly with the financial market integration.