Lecture 8

Question 1

We assumed previously that NZ was a closed economy but this is not true. What is NZ and what does this mean?

Answer 1

NZ is a small open economy which means we interest with the rest of the world

Question 2

What does “interacting with the rest of the world” involve?

Answer 2

buying and selling goods and services in world product markets and buying and selling financial assets

Question 3

What is meant by financial assets?

Answer 3

foreign direct investment and foreign portfolio investment

Question 4

On what page in the textbook can you find information about assets foreign direct investment and foreign portfolio investment?

Answer 4

page 750

Question 5

What is the trade balance and what is it also known as?

Answer 5

it is also known as net exports and is calculated by the value of a nation’s exports minus the value of its imports

Question 6

What causes a trade surplus?

Answer 6

when exports > imports

Question 7

What causes a trade deficit?

Answer 7

when exports < imports

Question 8

What causes balanced trade?

Answer 8

exports = imports

Question 9

What is the current account balance?

Answer 9

The sum of net exports (NX) and net foreign income (NFI)

Question 10

CAB = NX +

Answer 10

NFI

Question 11

In recent years the trade balance/net exports has been mostly _________ and the NFI has been __________ and the current account account balance is ____________

Answer 11

positive
negative
negative

Question 12

What is net capital outflow?

*also called net foreign investment (not income)

Answer 12

this is the purchase of foreign assets by domestic residents minus the purchase of domestic assets by foreigners

Question 13

Does the purchase of a foreign asset by a domestic resident have a positive or negative impact on the NCO?

Answer 13

positive

Question 14

Does the purchase of a domestic asset by a foreign resident have a positive or negative impact on the NCO?

Answer 14

negative

Question 15

Give an example of net foreign income (not investment)

Answer 15

income from foreign shares or foreign aid to the Pacific Islands

Question 16

Net capital outflows (NCOs, also called net foreign ________) make reference to the difference between the acquisition of foreign _______ by _________ residents and the acquisition of ________ assets by non-residents. Net capital outflows takes two forms: foreign _______ investment, and _______ investment. Foreign ________ investment implies actively __________ the asset or the interest bought, while portfolio investment requires no role at all in __________.

An open economy can therefore _______ and _______ assets in the financial markets, generating flows of _________.

NCO = Acquisition of __________ assets by residents – Acquisition of ________ assets by nonresidents

When the net capital outflow is _________, domestic residents are buying more ________ assets than foreigners are purchasing domestic assets. When it’s _________, foreigners are purchasing more _____ assets than residents are purchasing foreign assets.

Answer 16

Net capital outflows (NCOs, also called net foreign investment) make reference to the difference between the acquisition of foreign assets by domestic residents and the acquisition of domestic assets by non-residents. Net capital outflows takes two forms: foreign direct investment, and portfolio investment. Foreign direct investment implies actively managing the asset or the interest bought, while portfolio investment requires no role at all in management.

An open economy can therefore buy and sell assets in the financial markets, generating flows of capital.

NCO = Acquisition of foreign assets by residents – Acquisition of domestic assets by nonresidents

When the net capital outflow is positive, domestic residents are buying more foreign assets than foreigners are purchasing domestic assets. When it’s negative, foreigners are purchasing more domestic assets than residents are purchasing foreign assets.

Question 17

What is the capital account balances (KAB)?

Answer 17

the difference between the total receipts from the sale of domestic assets to foreigners and the total payments abroad of purchasing foreign assets

Question 18

An outflow is counted positively/negatively for the NCO and an inflow is counted positively/negatively

Answer 18

positively

negatively

Question 19

The NCO is the negative of what?

Answer 19

capital account balance (KAB)

NCO = -KAB

Question 20

What the capital account balance (KAB) is positive the NCO is greater than or less than 0?

Answer 20

NCO < 0

Question 21

What the capital account balance (KCN) is negative then the NCO is greater than or less than 0?

Answer 21

NCO > 0

Question 22

If there is no foreign earnings or transfers across international borders (NFI = 0), that the net capital outflow must be equal to what?

Answer 22

net exports

CAB = NX + NFI becomes NCO = NX

Question 23

When a nation imports more than it exports, foreigns do what?

Answer 23

gain a claim on domestic assets

Question 24

When a nation exports more than it imports, domestic residents do what?

Answer 24

gain a claim on foreign assets

Question 25

Suppose a NZ farmer sells some wool to a french customer for €100 and is paid in cash. If the farmer holds on to the €100, what happens to the NX and NCO?

Answer 25

NX will increase by €100 because exports increased

NCO will also increase by €100 because the farmer is holding a foreign asset

Question 26

Suppose a NZ farmer sells some wool to a french customer for €100 and is paid in cash. If the farmer buys €100 worth of French wine, what happens to the NX and NCO?

Answer 26

NX remains unchanged: exports increase by €100 due to the sale of the wool but then imports increase by €100 due to the purchase of the wine
NCO remains unchanged because there has been no purchase of foreign asset

Question 27

Suppose a NZ farmer sells some wool to a french customer for €100 and is paid in cash. If the farmer exchanges the €100 into $NZ, what happens to the NX and NCO?

Answer 27

Because another NZer holds a foreign financial asset, NX and NCO both increase by €100

Question 28

Why does the NCO and NX remain the same even after one of them has changed?

Answer 28

because there is some offsetting action due to currencies needing to be exchanged

Question 29

What is the balance of payments condition?

Answer 29

The current account balance must equal the net capital outflow
CAB = NCO

Question 30

For a closed economy, NX = _______ and NFI = _______

Answer 30

0

0

Question 31

For a closed economy, S =

Answer 31

I (where S is national savings)

Question 32

For an open economy, what is gross national disposable income (YD) equal to?

Answer 32

YD = C + I + G + (NX + NFI)

Question 33

In an open economy, YD = ________ + _______ + _________ + (______ + ______).
Since national savings is S = _______ - _________ - ________, S can also = ______ + (________ + ________)
Since CAB = _______ + _______ and CAB = _________,
S = _________ + ________

Answer 33

YD = C + I + G + (NX + NFI)

S = YD - C - G
S = I + (NX + NFI)

CAB = NX + NFI
CAB = NCO

S = I + NCO

Question 34

The difference between national savings and domestic investment is what?

Answer 34

net capital outflow

Question 35

What are the two uses for domestic savings in an open economy?

Answer 35

(i) domestic investment

(ii) the purchase of foreign assets

Question 36

In an open economy, domestic investment has what two sources?

Answer 36

(i) domestic savers

(ii) foreign funds