IEU - Lecture 10 - Open Macro with Flexible ER - revised

IEU - Lecture 10 - Open Macro with Flexible ER - revised -...

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Unformatted text preview: Izmir University of Economics ECON 306 INTERNATIONAL ECONOMICS Lecture 10 Floating Exchange Rates and International Balance i Y The effects of fiscal policies under different capital mobility assumptions BP Depreciation Appreciation 1. The level of exports is influenced by domestic and foreign price levels the level of income in the rest of the world foreign tastes and preferences. 1. Home country imports are also influenced by the level of foreign and domestic prices tastes and preferences 1. Capital flows depend on foreign interest rates expected profit rates in both the home and foreign countries expected future exchange rates perceived risk associated with the investment alternatives. All of the following additional considerations are held constant for a specific external balance (BP) curve. Should any of the factors change, the BP curve will shift to offset the effects of the changing condition and thus continue to reflect external balance. i Y i The effects of fiscal policies under different capital mobility assumptions LM BP 0 IS i Y Y 1 i An increase in government spending (G ) or a decrease in taxes (T ) shifts the IS curve to the right, putting upward pressure on domestic income and interest rate. The effects of fiscal policies under different capital mobility assumptions LM BP 0 IS IS i Y Y 1 Y 2 i Because capital is perfectly immobile, the increase in income creates an incipient BoP deficit and causes the currency to depreciate. The BP shifts to the right. The effects of fiscal policies under different capital mobility assumptions LM BP 0 BP 1 IS IS i i The depreciation of the currency causes exports to increase and imports to decrease, resulting rightward shift of the IS curve to IS. The effects of fiscal policies under different capital mobility assumptions LM BP 0 BP 1 IS IS IS Y Y 1 Y 2 i Y i The effects of fiscal policies under different capital mobility assumptions LM BP 0 IS i Y Y 1 i The effects of fiscal policies under different capital mobility assumptions...
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IEU - Lecture 10 - Open Macro with Flexible ER - revised -...

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