Equilibrium moving y pxpy 1 oca ocb x disequilibrium

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Unformatted text preview: od Y. X Disequilibrium Disequilibrium OCA Y (PX/PY)1 OCB X2 X1 X Disequilibrium Disequilibrium OCA Y (PX/PY)1 OCB At (PX/PY)1, country A wishes to export X1 units, but country B is only interested in importing X2 units. That is, there is an excess supply of good X. X2 X1 X Disequilibrium Disequilibrium Excess demand for Y causes PY to rise Excess supply of X causes PX to fall Thus, (PX/PY) falls In other words, the terms of trade line gets flatter, moving the countries in the direction of equilibrium Moving Towards Equilibrium Moving Y (PX/PY) 1 OCA OCB X Disequilibrium Disequilibrium Terms of trade lines that are flatter than (PX/PY)E, such as Disequilibrium Disequilibrium Y OCA (PX/PY)2 OCB X Disequilibrium Disequilibrium Terms of trade lines that are flatter than (PX/PY)E will results in • • an excess demand for good X an excess supply of good Y, and so (PX/PY) will rise That is, the terms of trade line will get steeper until (PX/PY)E is reached Moving Towards Equilibrium Moving Y OCA (PX/PY)2 OCB X A Note on the Terms of Trade Note A country’s “terms of trade” are the price of its exports divided by the price of its imports, so a rising terms of trade is good news In this example, (PX/PY) is country A’s terms of trade, since A exports good X and imports Y (PY/PX) is country B’s terms of trade in this example A Note on the Terms of Trade, continued con...
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