Chapter 15: Open Economy, International Trade, and Finance

15.1 Balance of Payments Accounts

• Balance of payments: statement of all international flows of money during a period of time
• Trade deficit: when imports exceed exports
• Trade surplus: when exports exceed imports

15.2 Exchange Rates and the Foreign Exchange Market

• Depreciation: currency becomes weaker/loses value compared to other currencies
• Appreciation: currency gains value compared to other currencies
• Arbitrage: buying low, selling high → profit

15.3 Effects of change in Policies and Economic Conditions of the Foreign Exchange Market

• Fixed exchange rate: changes in demand only affect quantity of dollars purchased
• Flexible exchange rate: central bank can fix quantity of assets denominated in home currency

15.4 & 15.5 Changes in the Foreign Exchange Market and Net Exports and Real Interest Rates and International Capital Flows

• Liquidity trap: when demand for money is flat → change in money supply does not affect interest rates

• Equation of exchange:

  MV = PQ

  • Velocity of money (V): number of times per period that average dollar is spent on final goods and services
  • Quantity of money: Q is stable in addition to V

• Neutral rate of real interest: fluctuations in nominal interest rate reflect anticipated inflation

• Fisher effect: market participants predicted Fed will reduce money supply growth to counter inflation → causes inflation and nominal interest rates to fall

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