Dynamic stability in a two-country model of optimal growth and international trade

Despite an extensive literature on dynamic stability in optimal-growth models of closed economies, analogous work on internationally trading economies is scarce, focusing only on the special case of a 'small' open economy. To address this scarcity, the present paper establishes saddle-path stability of equilibrium in an infinite-horizon continuous-time model of two (large) countries that grow optimally and trade freely. The model has three products (including a non-traded capital good) and an exogenously fixed rate of growth. We also discuss briefly the dynamic-stability implications of modifying the model to have only two goods or an endogenous growth rate.

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