2010-ECON 202 L16 - ECON202 Viv Hall, SEF VUW L16 AD-AS for...

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ECON202 Viv Hall, SEF VUW L16 AD-AS for an Open Economy 1. Some Key Points 2. Open economy AD 3. Open economy AS 4. An illustrative shock from imported intermediate goods prices Blanchard 5/e, chapter 7, especially section 7-6
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ECON202 Viv Hall, SEF VUW Some Key Points Open economy AD functions will depend on the exchange rate regime , but still slope down in P/Y space: Closed economy a Δ P has a real money balance effect Open economy Floating E: a Δ P has a real money balance effect plus a real exchange rate effect Fixed E: a Δ P has a real exchange rate effect only Open economy AS functions need to capture the effect of imported intermediate input prices on P and Y. Changes to the prices of imported intermediate inputs will change the natural level of output . Open economy AS functions can capture a direct impact of world import price changes and exchange rate changes .
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ECON202 Viv Hall, SEF VUW An open economy AD : (1) The open economy AD function depends on the exchange rate regime , because the open economy IS and UIP functions vary according to the exchange rate regime. For the floating rate regime , we know: UIP : i = i* - (E e E)/E or E = E e [(1+i)/(1+i*)] (1) LM: M/P = Y L(i) or i = i[M/P, Y] (2) IS: Y = C(Y-T) +I(Y, i ) +G +NX(Y,Y*, ε ); ε = EP/P* (3) - Substituting for ε and i from (1) & (2), into (3), gives (+) (+) (+) (-) (+) (-)(+) (-) Y=C(Y-T)+I(Y,i[M/P,Y])+G+NX[Y,Y*,E e [(1+i[M/P,Y]P] (4) (1+ i*)P*
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ECON202 Viv Hall, SEF VUW An open economy AD : (2) But, for the floating rate regime (continued) , the IS-LM-UIP outcome -c a n b e written more simply as : (+) (+)(-) (+) (+) (-) (-) AD Open/Floating Y = Y[M/
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2010-ECON 202 L16 - ECON202 Viv Hall, SEF VUW L16 AD-AS for...

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