Chapter 18 Flashcards
What is the balance of trade
The value of exports minus the value of imports
What is a trade deficit
When a country imports more than it exports so there is a negative balance of trade
What is trade surplus
When a country exports more than it imports so its balance of trade is positive
What are Canada’s major trading partners
- The US
- European Union
- China
What is foreign direct investment (FDI)
When a firm runs part of its operation abroad or invests in another company abroad
What is foreign portfolio investment
Investment funded by foreign sources but operated domestically
What is net capital flow
The net flow of funds invested outside of a country (the difference between capital inflows and capital outflows)
What are capital outflows
Investments financed by savings from another country
What is balance of payments identity
An equation that shows that the value of net exports equals net capital outflow
What is the equation for the income expenditure identity
Y = C + I + G + NX
What is net capital outflow
(NCO = NX)
Allows countries to sustain trade imbalances for long periods of time
What does balance of payments identity tell us
That the net capital outflow of a country equals the value of its net exports
How do higher outflows and lower inflows push net outflows
Higher
How do lower outflows and higher inflows push net outflows
Lower
What 3 things can foreign investment do
- increase the GDP of the host country by giving it access to additional resources
- increase the GDP of investing country by providing it with way to earn higher returns on its capital
- make the world a more efficient place by moving capital from places with low returns to places with high returns
What is the exchange rate
The value of one currency expressed in terms of another currency
When examining the exchange rates between two nations currencies, the exchange rates will be reciprocals
What is exchange rate appreciation
When the value of a currency increases relative to the value of another currency
What is the effect of an increase in the government deficit
When the government spends more than it collects in revenue, it has to borrow money
This pushes the savings curve left, which results in an increase in the interest rate and lower quality investment
What is exchange-rate depreciation
When the value of a currency decreases relative to other currencies
When a currency depreciates to can “buy” less of another currency
What happens when the Canadian dollar appreciates against a foreign currency
Canadian goods become more expensive to people abroad and foreign goods become cheaper to Canadians. As a result we would expect net exports to decrease, trade deficit rises.
What happens when the Canadian dollar depreciates against a foreign currency
Foreign goods become more expensive for Canadians and Canadian goods become cheaper for consumers. We would expect net exports to increase, trade deficit decreases.
What 3 variables determine the supply & demand for a countries currency
- Consumer Preferences
- Interest rates
- Perceived risk of investing in that country vs another country (confidence)
What happens to supply & demand of dollars when the exchange rate increases
The quantity supplied of dollars increases and the quantity demanded of dollars increases
What two ways does monetary police work on aggregate demand
Reducing investment and reducing net exports
What is a floating exchange rate
Countries whose currency is determined by the market and currency can be freely traded
What is the difference between floating vs fixed exchange rates
Floating: the market for foreign exchange will operate at the equilibrium pice and quantity
Fixed: excess demand for currency, which the government must cover by buying foreign currencies and selling local currency
What is a fixed exchange rate
An exchange rate that is set by the government instead of determined by the market
What is a speculative attack
When investors make profit by selling currency at a high price and then buy it back at a low price
When a country suffers a speculative attack, the supply of currency available shifts right
What is one key point of a fixed exchange rate
It is impossible to conduct monetary policy and maintain a fixed exchange rate
What is the nominal exchange rate
The stated rate at which one country’s currency can be traded for another country’s currency
What is the real exchange rate
It expresses the value of goods in one country in terms of the same goods in another country
How do you calculate real exchange rate
Real exchange rate = nominal exchange rate x (domestic price level/ foreign price level)
What does the IMF do
It steps in as a lender of last resort, which makes loans to countries when private lenders flee
