Midterm 2 study guide

Midterm 2 study guide - Econ 302-Midterm 2 Study Guide...

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Econ 302-Midterm 2 Study Guide Chapter 5: The Open Economy Net Exports: exports minus imports (NX=EX-IM); NX=Y-(C+I+G) Net exports=Output- Domestic spending If Output>Spending net exports positive; export If Output<Spending net exports negative; import **NX=NS-I Trade Balance: another name for exports that tells us how our trade in goods and services departs from the benchmark of equal imports and exports. NX=0 is balanced trade, NS=I, Exports=Imports NX>0 is trade surplus, NS>I, Exports>Imports, Lend to foreigners, NCO>0 NX<0 is trade deficit, NS<I, Exports<Imports, Borrow from foreigners, NCO<0 Net Capital Outflow: the amount residents are lending abroad minus the amount that foreigners are lending to the domestic economy (difference between domestic savings and domestic investments S-I) Net Capital Outflow=Trade Balance; S-I=NX Trade surplus: if S-I and NX are positive. We are net lenders in world financial markets, and we are exporting more goods than we are importing. Trade deficit: if S-I and NX are negative. We are net borrowers in world financial markets, and we are importing more than we are exporting. Balanced Trade: if S-I and NX are exactly zero. The value of imports-exports Small Open Economy: an open economy that takes its interest rate as given by world financial markets. This economy has a negligible impact on world markets and on the world interest rate. “Perfect capital mobility” means that residents of the country have full access to world financial markets (the government does not impose on international borrowing and lending). r=real interest rate in a small open economy and r* is world real interest rate World interest rate: the interest rate prevailing in world financial markets; r=R* The world interest rate determines the interest rate in a small open economy The Model: 1) Economy’s Output Y is fixed by factors of production 2) Consumption C is positively related to disposable income Y-T; C=C(Y-T) 3) Investment I is negatively related to the real interest rate r; I=I(r) NX=(Y-C-G)-I so NX=S-I(r*)
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If G decreases or T increases= NS increases If G increases or T decreases=NS decreases Nominal Exchange Rate: e, the relative price of the currency of 2 countries; the rate usually used between countries Ex. Exchange one dollar for 120 yen in world markets for foreign currency E= E(P*/P) Real Exchange Rate: E, the relative price of the goods of 2 countries; it expresses the rate at which we can trade the goods of one country for the goods of another; NX=NX(E)
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This note was uploaded on 10/03/2008 for the course ECON 302 taught by Professor Gold during the Spring '07 term at University of Wisconsin.

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Midterm 2 study guide - Econ 302-Midterm 2 Study Guide...

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