Week eight learning Flashcards
What is a closed economy?
An economy that does not interact with other economies; no exports, imports, or capital flows.
What is an open economy?
An economy that interacts freely with other economies through buying and selling goods and services and financial assets.
What are exports?
Goods and services produced domestically and sold abroad.
What are imports?
Goods and services produced abroad and sold domestically.
What is the trade balance (net exports)?
The value of a nation’s exports minus the value of its imports.
What is a trade deficit?
A situation where net exports (trade balance) are negative, meaning imports exceed exports.
What is a trade surplus?
A situation where net exports (trade balance) are positive, meaning exports exceed imports.
What factors affect net exports?
Tastes of consumers, prices of goods at home and abroad, exchange rates, incomes of consumers at home and abroad, costs of transporting goods, and government trade policies.
What is net foreign investment (NFI)?
The purchase of foreign assets by domestic residents minus the purchase of domestic assets by foreigners.
What are the two forms of foreign investment?
Foreign direct investment (ownership and operation by a foreign entity) and foreign portfolio investment (financed with foreign money but operated by domestic residents).
What variables influence net foreign investment (NFI)?
Real interest rates on foreign and domestic assets, perceived economic and political risks, and government policies affecting foreign ownership of domestic assets.
How does net foreign investment relate to net exports?
Net foreign investment (NFI) must equal the current account balance (CAB), which is the net value of goods and services sold (net exports).
What is the saving-investment identity?
S = I + NFI, where saving can be used to finance domestic investment or to purchase foreign assets.
What is the nominal exchange rate?
The rate at which one currency can be traded for another, expressed as units of foreign currency per unit of domestic currency or vice versa.
What is appreciation of a currency?
An increase in the value of a currency as measured by the amount of foreign currency it can buy.
What is depreciation of a currency?
A decrease in the value of a currency as measured by the amount of foreign currency it can buy.
What is the real exchange rate?
The rate at which goods and services of one country can be traded for goods and services of another country, comparing domestic prices with foreign prices
How does a depreciation of the real exchange rate affect exports and imports?
It makes domestic goods cheaper relative to foreign goods, encouraging more exports and reducing imports, which increases net exports.
What is purchasing-power parity (PPP)?
The theory that a unit of currency should be able to buy the same quantity of goods in all countries.
What is the law of one price?
A principle stating that a good must sell for the same price in all locations when expressed in a common currency, assuming no transportation costs and perfect substitutes.
How does purchasing-power parity (PPP) relate to exchange rates?
PPP implies that the nominal exchange rate between two currencies should reflect the price levels of a basket of goods in those countries.
What are some limitations of purchasing-power parity?
Transport costs, non-tradable goods and services, and differences in product substitutes can affect PPP
What does a persistent change in nominal exchange rates usually reflect?
Changes in price levels at home and abroad.
What is the summary of the relationship between net exports, net foreign investment, and saving?
Net exports equal net foreign investment; saving can finance either domestic investment or foreign asset purchases. The nominal exchange rate reflects currency values, while the real exchange rate reflects relative prices of goods.
