eco202_note05 - Macroeconomics Theory and Policy Open...

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Macroeconomics Theory and Policy Masoud Anjomshoa 1 Masoud Anjomshoa 1 Open Economy in Short Run Masoud Anjomshoa 2 Goods Market in Open Economies: . Nominal Exchange Rate, E: Price of foreign currency in terms of domestic currency, like: We assume that we have two goods, domestic made good, Y, with price P, and foreign made good, Y*, with price P*. Consumers should decide how much of each, they can consume. E = 1.6165 $/ € E = 0.01346 $/¥ E = 2.0269 $/ £ Nominal Depreciation: If foreign currency becomes stronger, or domestic currency becomes weaker, or if Nominal Appreciation: If foreign currency becomes weaker, or domestic currency becomes stronger, or if
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Macroeconomics Theory and Policy Masoud Anjomshoa 2 Masoud Anjomshoa 3 Goods Market in Open Economies: . Real Exchange Rate, ε : Price of foreign goods in terms of domestic goods: European Car = €47,000 Canadian Car = $60,000 E = 1.6165 $/ € Î Real Depreciation: If foreign goods become relatively more expensive, or domestic goods become relatively cheaper, or if Real Appreciation: If foreign goods become relatively cheaper, or domestic goods become relatively more expensive, or if Which product is cheaper? 2663 . 1 000 , 60 6165 . 1 000 , 47 ratio ice Pr = × = Masoud Anjomshoa 4 Goods Market in Open Economies: . Real Exchange Rate: P * EP = ε P P * P * P E E Δ Δ + Δ = ε ε Δ π π + Δ = ε ε Δ * E E Example: Δ E/E= 2% π = 6% π * = 3% Î Δε / ε = -1% Real appreciation Î domestic goods become relatively more expensive.
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Macroeconomics Theory and Policy Masoud Anjomshoa 3 Masoud Anjomshoa 5 Financial Market in Open Economies: . We assume that we have 4 assets, foreign and domestic bonds, B, and B*, and foreign and domestic money. People do not normally keep foreign currency. Because it is neither good for transactions nor return. Maybe only for: - Illegal transactions. - Protection against domestic inflation. Domestic interest rate, i W ealth M B * B Foreign interest rate, i* Masoud Anjomshoa 6 Financial Market in Open Economies: .
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eco202_note05 - Macroeconomics Theory and Policy Open...

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