Lu8: Open- Economy Macroeconomics: Basic Concepts (Purchasing power parity…
Lu8: Open- Economy Macroeconomics: Basic Concepts
The international flows of good and capital
The United States is a very large and open economy—it imports and exports huge quantities of goods and services.
Malaysia is a small but open economy.
are goods and services that are produced domestically and sold abroad.
are goods and services that are produced abroad and sold domestically.
(NX) are the value of a nation’s exports minus the value of its imports.
Net exports are also called the
A trade deficit
is a situation in which net exports (NX) are negative.
Imports > Exports
A trade surplus
is a situation in which net exports (NX) are positive.
Exports > Imports
refers to when net exports are zero—exports and imports are exactly equal.
The price for international transaction real and nominal exchange rate
The nominal exchange rate
is the rate at which a person can trade the currency of one country for the currency of another.
expressed in two ways
In units of foreign currency per one ringgit.
2.in units of ringgit per one unit of the foreign currency.
refers to an increase in the value of a currency as measured by the amount of foreign currency it can buy.
refers to a decrease in the value of a currency as measured by the amount of foreign currency it can buy.
Purchasing power parity
a theory of exchange rates whereby a unit of any given currency should be able to buy the same quantity of goods in all countries.
the law of one price
, a good must sell for
the same price in all locations
If the law of one price were not true, unexploited profit opportunities would exist
The process of
of differences in prices in different markets is called
nominal exchange rate
between the currencies of two countries must reflect the
different price levels
in those countries.
Many goods are not easily traded or shipped from one country to another.
Tradeable goods are not always perfect substitutes when they are produced in different countries.
A closed economy
is one that does not interact with other economies in the world.
There are no exports, no imports, and no capital flows.
An open economy
is one that interacts freely with other economies around the world.
interacts with other countries in two ways.
It buys and sells goods and services in world product markets.
It buys and sells capital assets in world financial markets.
Real exchange rate
the rate at which a person can trade the goods and services of one country for the goods and services of another.
compares the prices of domestic goods and foreign goods in the domestic economy.
Real exchange rate= Nominal exchange rate X Domestic price/ Foreign price