Chapter 7 Flashcards
What happens when a country’s output is not equal to its domestic spending?
If output exceeds domestic spending, it exports the rest and net exports increases. If output is less than domestic spending, then it imports and net exports decrease
Trade balance
The receipts from exports minus the payment for imports
Net capital outflow
The net flow of funds being invested abroad; domestic saving minus domestic investment; also called net foreign investment
Trade surplus
An excess of exports over imports
Trade deficit
An excess of imports over exports
Balanced trade
A situation in which the value of imports equals the value of exports, so net exports equal zero
Small open economy
An open economy that takes its interest rate as given by world financial markets; an economy that, by virtue of its size, has negligible impact on world markets and, in particular, on the world interest rate
World interest rate
The interest rate prevailing in world financial markets
How does a change in fiscal policy that reduces national saving affect balanced trade?
Leads to a trade deficit
How does an increase in the world interest rate due to fiscal expansion abroad affect balanced trade?
Leads to a trade surplus
How does an outward shift in the investment schedule affect balanced trade?
Leads to a trade deficit
Nominal exchange rate
The rate at which one country’s currency trades for another country’s currency
Real exchange rate
The rate at which one country’s goods trade for another country’s goods
How does the real exchange rate affect the relative price of domestic and international goods?
A high real exchange rate means domestic goods are relatively expensive while foreign goods are cheap
A low real exchange rate means domestic goods are relatively cheap while foreign goods are expensive
How does expansionary fiscal policy at home affect the real exchange rate?
Reduces supply of dollars, raising the real exchange rate
How does expansionary fiscal policy abroad affect the real exchange rate?
Raises the interest rate, reducing foreign investment and supply of dollars so lowering real exchange rate
How does an outward shift in the investment schedule affect the real exchange rate?
Reduces the supply of dollars, raising the real exchange rate
What effect do protectionist trade policies have on the economy?
Shifts the net export schedule outward, increasing the real exchange rate but keeping net exports constant
How does a country’s inflation affect its exchange rate?
A country with a higher rate of inflation to the US means the dollar will buy an increasing amount of that currency over time
A country with a lower rate of inflation to the US means the dollar will buy a decreasing amount of that currency over time
Purchasing-power parity
The doctrine according to which goods must sell for the same price in every country, implying that the nominal exchange rate reflects differences in price levels
