CH17: Openness in Goods and Financial Markets

What is openness in goods markets?

The ability of consumers and firms to choose between domestic and foreign goods

What are tradable goods?

Goods that compete with foreign goods in domestic or foreign markets (e.g., flowers, not haircuts)

Can a country's export ratio exceed 100% of GDP?

Yes, due to intermediate goods. For example, Singapore had a 173% export ratio in 2017

What is the nominal exchange rate?

The price of the domestic currency in terms of foreign currency

What determines whether a consumer imports a good or buys domestically?

The domestic and foreign prices, and the nominal exchange rate

What is real exchange rate (ε)?

ε = (P × E) / P*, where P = domestic price, E = nominal exchange rate, P* = foreign price

What happens if the real exchange rate increases?

Domestic goods become less competitive (real appreciation)

What are NEER and REER?

NEER: Nominal Effective Exchange Rate — a trade-weighted average of nominal exchange rates.

REER: Real Effective Exchange Rate — NEER adjusted for price levels.

What is the balance of payments?

A set of accounts summarizing a country's transactions with the rest of the world.

What is included in the current account?

Exports and imports of goods and services

Net income (received – paid)

Net transfers

What is the capital account?

Records net foreign holdings of domestic assets (e.g., FDI, stocks, bonds)

What does GNP equal?

GNP = GDP + Net Income (from abroad)

What is uncovered interest parity (UIP)?

t states that expected returns on domestic and foreign assets must be equal.

According to UIP, what happens if the domestic currency is expected to appreciate?

The domestic interest rate will be lower than the foreign interest rate.

What determines the choice between domestic and foreign goods?

The real exchange rate.

What determines the choice between domestic and foreign assets?

Expected returns and expected appreciation of the domestic currency