Chapter 26 - Exchange rates, international trade & capital flows

power parity

Purchasing (PPP): theory that nominal exchange rates are deter mined as necessary for the law of one price to hold.

U.S.

households and firms supply dollars to the foreign exchange market to acquire foreign currencies, which they need to purchase foreign goods, services, and assets.

power parity

Purchasing (PPP): theory that nominal exchange rates are deter mined as necessary for the law of one price to hold.

U.S.

households and firms supply dollars to the foreign exchange market to acquire foreign currencies, which they need to purchase foreign goods, services, and assets.

Appreciation

: increase in the value of a currency relative to other currencies.

Depreciation

: decrease in the value of a currency relative to other currencies.

Trade deficit

: when imports exceed exports, the difference between the value of a country's imports and the value of its exports in a given period.

tight monetary policy

A(n) raises the real interest rate, increasing the demand for dollars, reducing the supply of dollars, and strengthening the dollar.

Trade

balance= net exports: value of a country's exports less the value of its imports in a particular period (quarter or year)

Nominal exchange rate

: rate at which two currencies can be traded for each other.

Trade surplus

: when exports exceed imports, the difference between the value of a country's exports and the value of its imports in a given period.

Capital inflows

: purchases of domestic assets by foreign households and firms.

Nominal exchange rate

rate at which two currencies can be traded for each other

Appreciation

increase in the value of a currency relative to other currencies

Depreciation

decrease in the value of a currency relative to other currencies

Flexible exchange rate

exchange rate whose value is not officially fixed but varies according to the supply and demand for the currency in the foreign exchange market

Foreign exchange market

market on which currencies of various nations are traded for one another

Fixed exchange rate

exchange rate whose value is set by official government policy

Market equilibrium value of the exchange rate

exchange rate that equates the quantities of the currency supplied and demanded in the foreign exchange market

Real exchange rate

price of the average domestic good or service relative to the price of the average foreign good or service, when prices are expressed in terms of a common currency

Law of one price

if transportation costs are relatively small, the price of an internationally traded commodity must be the same in all locations

Purchasing power parity (PPP)

theory that nominal exchange rates are deter mined as necessary for the law of one price to hold

Trade balance = net exports

value of a country's exports less the value of its imports in a particular period (quarter or year)

Trade surplus

when exports exceed imports, the difference between the value of a country's exports and the value of its imports in a given period

Trade deficit

when imports exceed exports, the difference between the value of a country's imports and the value of its exports in a given period

International capital flows

purchases/sales of real and financial assets across international borders

Capital inflows

purchases of domestic assets by foreign households and firms

Capital outflows

purchases of foreign assets by domestic households and firms

Net capital inflows

capital inflows minus capital outflows

Nominal exchange at rate

Rate at which two currencies can be traded for each other

Appreciation

Increase in the value of a currency relative to other currencies

Depreciation

Decrease in the value of a currency relative to other currencies

Flexible exchange rate

Exchange rate whose value is not officially fixed but varies according to the supply and demand for the currency in the foreign exchange market

Foreign exchange market

Market on which currencies of various nations are traded for one another

Fixed exchange rate

Exchange rate whose value is set by official government policy

Real exchange rate

Price of the average domestic good or service relative to the price of the average foreign good or service, when prices are expressed in terms of a common currency

Law of one price

If transportation costs are relatively small, the price of an internationally traded commodity must be the same in all locations

Purchasing power parity (PPP)

Theory that nominal exchange rates are deter mined as necessary for the law of one price to hold

Trade balance = net exports

Value of a country's exports less the value of its imports in a particular period (quarter or year)

Trade surplus

When exports exceed imports, the difference between the value of a country's
exports and the value of its imports in a given period

Trade deficit

When imports exceed exports, the difference between the value of a country's
imports and the value of its exports in a given period

International capital flows

Purchases/sales of real and financial assets across international borders

Capital inflows

Purchases of domestic assets by foreign households and firms

Capital outflows

Purchases of foreign assets by domestic households and firms

Net capital inflows

Capital inflows minus capital outflows