Subpart (a):
Changes in the trade balance, real exchange rate, and nominal exchange rate.
Subpart (a):
Explanation of Solution
The fall in consumer confidence about the future induces the following effect on the trade balance, real exchange rate, and the nominal exchange rate which is depicted in figure 1.
In figure 1, the horizontal axis measures the net exports (trade balance) and the vertical axis measures the real exchange rate.
When the consumer spends less and save more, the
Nominal exchange rate: Nominal exchange rate can be defined as the relative price of currencies of two countries that is the rate at which one currency can be exchanged for another currency.
Real exchange rate: Real exchange rate can be defined as the relative price of goods or services of two countries, which is the rate at which one can exchange the goods and services of one country for the goods and services of another.
Inflation: Inflation is the situation of abnormal price hike in the economy which leads to the situation of too much money chasing less number of goods.
Depreciation of currency: The depreciation of currency implies decrease in the value of currency of respective country.
Appreciation of currency: The appreciation of currency implies increase in the value of currency of that country.
Subpart (b):
The changes in the trade balance, real exchange rate and nominal exchange rate.
Subpart (b):
Explanation of Solution
The tax reform induces the following effect on trade balance, real exchange rate, and the nominal exchange rate which is depicted in figure 2.
In figure 2, the horizontal axis measures the net exports (trade balance) and the vertical axis measures the real exchange rate.
The tax reform induces business to build factories and this increase the investment, which shifts the
Nominal exchange rate: Nominal exchange rate can be defined as the relative price of currencies of two countries that is the rate at which one currency can be exchanged for another currency.
Real exchange rate: Real exchange rate can be defined as the relative price of goods or services of two countries, which is the rate at which one can exchange the goods and services of one country for the goods and services of another.
Inflation: Inflation is the situation of abnormal price hike in the economy which leads to the situation of too much money chasing les number of goods.
Depreciation of currency: The depreciation of currency implies decrease in the value of currency of respective country.
Appreciation of currency: The appreciation of currency implies increase in the value of currency of that country.
Subpart (c):
The changes in the trade balance, real exchange rate, and nominal exchange rate.
Subpart (c):
Explanation of Solution
The consumer prefers foreign cars over domestic cars induces the following effect on the trade balance, real exchange rate, and the nominal exchange rate which is depicted in figure 3.
In figure 3, the horizontal axis measures the net exports (trade balance) and the vertical axis measures the real exchange rate.
The consumers’ preference for foreign cars over the domestic cars would have no effect on the savings and investment and therefore, there is no shift in
Nominal exchange rate: Nominal exchange rate can be defined as the relative price of currencies of two countries that is the rate at which one currency can be exchanged for another currency.
Real exchange rate: Real exchange rate can be defined as the relative price of goods or services of two countries, which is the rate at which one can exchange the goods and services of one country for the goods and services of another.
Inflation: Inflation is the situation of abnormal price hike in the economy which leads to the situation of too much money chasing less number of goods.
Depreciation of currency: The depreciation of currency implies decrease in the value of currency of respective country.
Appreciation of currency: The appreciation of currency implies increase in the value of currency of that country.
Subpart (d):
The changes in the trade balance, real exchange rate, and nominal exchange rate.
Subpart (d):
Explanation of Solution
Doubling the money supply induces the following effect on trade balance, real exchange rate, and the nominal exchange rate which is depicted in figure 4.
In figure 4, the horizontal axis measures the net exports (trade balance) and the vertical axis measures the real exchange rate.
Output Y is determined by the amount of capital and labor, whereas the investment I(r*) is determined by the world interest rate (r*). The net export (NX), on the other hand, is determined by the difference in domestic saving and domestic investment
Doubling the money supply has no effect on any real variables by the money neutrality. However, it affects the nominal exchange rate through its effect on the domestic price level P.
Price level P adjusts to equilibrate the
The level of output and the interest rate determines the real money demand
The nominal exchange rate is given as follows:
It can be expressed as follows:
Where e is the nominal exchange rate,
Nominal exchange rate: Nominal exchange rate can be defined as the relative price of currencies of two countries that is the rate at which one currency can be exchanged for another currency.
Real exchange rate: Real exchange rate can be defined as the relative price of goods or services of two countries, which is the rate at which one can exchange the goods and services of one country for the goods and services of another.
Depreciation of currency: The depreciation of currency implies decrease in the value of currency of respective country.
Appreciation of currency: The appreciation of currency implies increase in the value of currency of that country.
Subpart (e):
The changes in the trade balance, real exchange rate and nominal exchange rate.
Subpart (e):
Explanation of Solution
Increase in the demand for money induces the following effect on trade balance, real exchange rate, and the nominal exchange rate.
Output Y is determined by the amount of capital and labor, whereas investment I(r*) is determined by the world interest rate (r*). The net export (NX), on the other hand, is determined by difference in domestic saving and domestic investment
The increase in demand for money has no effect on any real variables by the money neutrality. However, it affects the nominal exchange rate through its effect on the domestic price level P.
Price level P adjusts to equilibrate the demand for supply of real balances which is given as follows:
The level of output and the interest rate determines the real money demand
The nominal exchange rate is given as follows:
It can be expressed as follows:
Here, e is the nominal exchange rate,
Nominal exchange rate: Nominal exchange rate can be defined as the relative price of currencies of two countries that is the rate at which one currency can be exchanged for another currency.
Real exchange rate: Real exchange rate can be defined as the relative price of goods or services of two countries, which is the rate at which one can exchange the goods and services of one country for the goods and services of another.
Depreciation of currency: The depreciation of currency implies decrease in the value of currency of respective country.
Appreciation of currency: The appreciation of currency implies increase in the value of currency of that country.
Want to see more full solutions like this?
- Explain how the change to the exchange rate between 2019 and 2020 may have influenced the changes in imports, exports, inflation and economic growth?arrow_forwardIf a small open economy cuts defense spending, what happens to saving, investment, the trade balance, the interest rate and the exchange rate? Include a graph.arrow_forwardProblem 3. An economist writing a column in a well-known paper makes the following announcement. "There are good news and bad news. The good news is Turkey had a temporary beneficial productivity shock that will increase output; the bad news is that the increase in output and income will lead domestic consumers to buy more imported goods, and our current account balance will fall." Assuming that Turkish economy is a small open economy, analyze this statement (is it true or false?, why?) taking as given that a beneficial productivity shock has indeed occurred. Problem 4. Plot MPKf vs. K+1 graph. Explain why the slope of the curve is as you plot. Using this graph explain how Kr+1 and It will change with the following changes. Make the analysis separately for each event. a) Future value of total factor productivity is expected to increase. b) The tax rate on revenues of the firms decreases. c) Relative price of capital goods increases. d) Expected real interest rate increases.arrow_forward
- explain like the case written below, but change the fixed exchange with freely exchange rate. what will happen?arrow_forwardInternational Finance and the Exchange Rate - End of Chapter Problem At a family gathering, one of your cousins says, "We spend so much more on imports than other countries spend on our exports. It isn't fair, and we should raise tariffs on imports to reduce how much we buy from other countries." How might you explain to your cousin that current account deficits aren't necessarily a sign of economic troubles to come? Our current account deficits mean we obtain cheaper goods than we could otherwise. Most economists agree that an unequal bilateral trade balance is nothing to worry about. Contrary to common belief, the current account deficit does not suggest that we are living beyond our means. The flip side of the current account deficit is a financial account surplus, which could enhance future growth if the foreign spending it entails is directed toward high-quality investments.arrow_forwardA U.S. Congressperson wants to reduce the U.S. trade deficit by imposing tariffs on imports. Use a model of a large open economy with a flexible exchange rate to predict the impact of tariffs on U.S. imports, exports, net exports, the exchange rate, and the interest rate.arrow_forward
- What are two ways in which monetary policies and tight budgets allow a fixed exchange rate system to be successful?arrow_forwardImagine that the economy of Germany finds itself in the following situation: the government budget has a surplus of 1% of Germany’s GDP; private savings is 20% of GDP; and physical investment is 18% of GDP. a. Based on the national saving and investment identity, what is the current account balance? b. If the government budget surplus falls to zero, how will this affect the current account balance?arrow_forwardHow do government budget deficits affect the exchange rate and trade balance?arrow_forward
- What is the relationship between the current account and the capital account in the balance of payments? Select one: a. The current account shows all income and expenditure and the capital account shows investment and how it is funded. b. The capital account shows how a current account deficit is funded or a surplus is disbursed. c. There is no relationship between them as they measure different things. d. The current account balance is the difference between exports and imports and the capital account balance shows net foreign income.arrow_forwardThere has been a 9% increase in the U.S. Consumer Price Index (which measures the average price level) and a 12% increase in Jamaica's Consumer Price Index. If no other variables change, what can we conclude about the real and nominal exchange rates? Select one: a. The nominal exchange rate has fallen. b. The real exchange rate has risen. c. The real exchange rate has fallen. d. The nominal exchange rate has risen. 3. Oil prices on the world market increase, causing domestic prices to increase. Select one: a. money supply decrease, money demand unchanged, interest rate increase b. money supply increase, money demand unchanged, interest rate decrease c. money supply unchanged, money demand decrease and interest rate decrease d. money supply unchanged, money demand increase, interest rate increase e. money supply increase, money demand increase, interest rate decreasearrow_forwardExplain why a decline in a country's exchange rate will generally increase the demand for its goods and reduce its demand for foreign goods.arrow_forward
- Macroeconomics: Private and Public Choice (MindTa...EconomicsISBN:9781305506756Author:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. MacphersonPublisher:Cengage LearningEconomics: Private and Public Choice (MindTap Cou...EconomicsISBN:9781305506725Author:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. MacphersonPublisher:Cengage Learning
- Brief Principles of Macroeconomics (MindTap Cours...EconomicsISBN:9781337091985Author:N. Gregory MankiwPublisher:Cengage LearningEconomics (MindTap Course List)EconomicsISBN:9781337617383Author:Roger A. ArnoldPublisher:Cengage Learning