A Macroeconomic Theory of the Open Economy - Flashcards

Vocabulary-style flashcards covering the key macroeconomic concepts of an open economy, including the markets for loanable funds and foreign-currency exchange, government policies, and capital flight.

Market for Loanable Funds

The market where those who save supply funds and those who want to borrow for domestic investment and net capital outflow demand funds.

National Saving ($S$)

The source of the supply of loanable funds in an open economy.

Domestic Investment ($I$)

One of the two components that constitute the demand for loanable funds.

Net Capital Outflow ($NCO$)

The purchase of foreign assets by domestic residents minus the purchase of domestic assets by foreigners, which acts as a source of demand for loanable funds and the source of supply for foreign-currency exchange.

Real Interest Rate ($r$)

The price of borrowing funds that balances the supply and demand for loanable funds; a higher rate encourages saving and reduces both domestic investment and net capital outflow.

Market for Foreign-Currency Exchange

The market in which the supply of dollars (from net capital outflow) and the demand for dollars (for net exports) are balanced by the real exchange rate.

Net Exports ($NX$)

The source of the demand for dollars in the market for foreign-currency exchange.

Real Exchange Rate ($e$)

The price that balances the supply of dollars for buying assets abroad and the demand for dollars to buy net exports; the transcript notes a vertical supply curve and a downward-sloping demand curve for this rate.

Purchasing-Power Parity

A special case of the foreign-currency exchange model suggesting that a dollar must buy the same quantity of goods in every country, implying a horizontal demand for dollars.

The $NCO$ Link

The variable that connects the market for loanable funds and the market for foreign-currency exchange; its key determinant is the real interest rate.

Open-Economy Equilibrium Identity

The relationship expressed as $S = I + NCO$, or alternatively $NX = S - I$.

Government Budget Deficit

An event that occurs when government spending exceeds revenue, leading to negative public saving, higher real interest rates, and a trade deficit.

Twin Deficits

A term referring to the phenomenon where a government budget deficit and a trade deficit occur simultaneously and are closely related.

Trade Policy

A government policy, such as a tariff or import quota, that directly influences the quantity of goods and services a country imports or exports.

Tariff

A tax on imported goods used as a form of trade policy.

Import Quota

A limit on the quantity of goods produced abroad that can be sold domestically; it increases demand for currency but does not change net exports.

Capital Flight

A large and sudden reduction in the demand for assets located in a country, which increases that country's interest rates and causes its currency to depreciate.