8 International Economies Flashcards
Closed economy
An economy that doesn’t interact with other economies
Open economy
An economy that does interact with other economies
Trade surplus
When exports> imports
Trade deficit
When imports > exports
Factors that influence trade
- tastes of consumers
- prices of goods at home and abroad
- exchange rates- people use domestic currency to buy foreign currencies
- incomes of consumers home and abroad
- transport costs
- government policies towards international trade
Net capital outflow
Purchase of foreign assets by domestic residents minus the purchase of domestic assets by foreigners
Flow of capital takes two forms
Foreign direct investment
Foreign portfolio investment
Factors that influence net capital outflow
- real interest rates paid on foreign assets
- real interest rates paid on domestic assets
- perceived economic and political risks of holding assets abroad
- government policies that effect foreign ownership of domestic assets
What are net exports equal to?
Net exports= net capital outflow
What is savings equal to?
S= Y-C-G
S=I+NCO
Nominal exchange rate
Rate at which a person can trade currency of one country for currency of another
Real exchange rate
The ratio at which a person can trade goods and services of one country for goods snd services of another
Real exchange rate equation
Real exchange rate = nominal exchange rate x domestic price/ foreign price
How does a depreciation in Pounds effect UK NX
Depreciation means UK goods are relatively cheap, consumers at home and abroad buy more UK goods, higher exports, lower imports, higher NX
Purchasing power parity theory
It says a unit of any given currency should be able to buy the same quantity of goods in all countries and so the real exchange rate must be 1
What does the nominal exchange rate between two countries reflect?
The price levels in those countries
How does money supply affect exchange rate?
Increase in money supply leads to increase in prices. Increase in prices causes depreciation of exchange rate
Limitations of PPP model
- in SR many other factors influence exchange rate
- real exchange rates aren’t constant over time
- many goods or services aren’t easily traded or aren’t perfect substitutes
- it says nothing about trade deficits or the currency market in the SR
Assumptions of model about trade deficit
GDP is taken as given
The economy’s price level is taken for given
There are two markets
1. Supply and demand for loanable funds
2. Supply and demand for a foreign currency
In the equation S=I+NCO what does S stand for?
Savings and the supply of loanable funds
In the equation S=I+NCO what does I+NCO stand for?
Demand for loanable funds
Is the supply curve S(r) increasing or decreasing
Increasing, a higher rate of interest encourages more saving
Is the demand curve I(r)+NCO(r) decreasing or increasing
Decreasing, a higher r discourages investments and makes foreign assets less attractive
What is demand for pounds equal to?
NX since NX is paid in pounds
