Principles of Economics- Mankiw (5th) 662

Principles of Economics- Mankiw (5th) 662 - 684 PA R T E L...

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684 PART ELEVEN THE MACROECONOMICS OF OPEN ECONOMIES rate were above the equilibrium level, the quantity of dollars supplied would ex- ceed the quantity demanded. The surplus of dollars would drive the value of the dollar downward. At the equilibrium real exchange rate, the demand for dollars by for- eigners arising from the U.S. net exports of goods and services exactly balances the supply of dollars from Americans arising from U.S. net foreign investment. At this point, it is worth noting that the division of transactions between “sup- ply” and “demand” in this model is somewhat artificial. In our model, net exports are the source of the demand for dollars, and net foreign investment is the source of the supply. Thus, when a U.S. resident imports a car made in Japan, our model treats that transaction as a decrease in the quantity of dollars demanded (because net exports fall) rather than an increase in the quantity of dollars supplied. Simi- larly, when a Japanese citizen buys a U.S. government bond, our model treats that
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