Lecture 15 - BUSI1107_Open Economy Macroeconomics 1
Page 1: Course Introduction
BUSI1107 Introduction to Economics: Open-Economy Macroeconomics
Page 2: Key Questions
Discusses the interrelation of international flows of goods and assets.
Differences between real and nominal exchange rates.
Understanding purchasing-power parity (PPP) and its role in explaining nominal exchange rates.
Page 3: Introduction to International Macroeconomics
Trade can improve overall economic conditions.
Overview of essential concepts:
Trade balance: trade deficits and surpluses.
International asset flows.
Exchange rates.
Page 4: Basic Concepts
Closed Economy:
Does not interact with global economies.
Open Economy:
Engages in international trade (buy/sell goods and services).
Trades capital assets (stocks, bonds).
Page 5: The Flow of Goods
Exports:
Goods/services produced domestically and sold abroad.
Imports:
Goods/services produced abroad and sold domestically.
Net Exports (Trade Balance):
Formula: Net Exports = Value of Exports - Value of Imports.
Page 6: Factors Influencing Net Exports (NX)
Various factors influencing exports, imports, and NX include:
Consumer preferences for foreign vs. domestic goods.
Pricing differences at home and abroad.
Exchange rates for foreign to domestic currency.
Income levels domestically and internationally.
Transportation costs and government policies.
Page 7: Trade Surpluses & Deficits
Trade Surplus:
Positive net exports (exports > imports).
More goods/services are sold abroad than purchased from abroad.
Trade Deficit:
Negative net exports (imports > exports).
More goods/services are purchased from abroad than sold.
Balanced Trade:
Exports equal imports.
Page 8: The Flow of Financial Resources
Net Capital Outflow (NCO):
Domestic purchase of foreign assets minus foreign purchase of domestic assets:
Foreign direct investment.
Foreign portfolio investment.
Page 9: Measuring NCO
NCO > 0: Capital outflow; domestic purchases of foreign assets exceed foreign purchases.
NCO < 0: Capital inflow; foreign purchases of domestic assets exceed domestic purchases.
Page 10: Variables Influencing NCO
Factors influencing NCO:
Real interest rates on foreign/domestic assets.
Perceived risks of holding foreign assets.
Government policy related to foreign ownership of assets.
Page 11: NX and NCO Equality
Accounting Identity: NCO = NX
Transactions affecting NX simultaneously impact NCO.
Example: Foreign goods purchased increases imports (reducing NX) and generates foreign asset acquisition (raising NCO).
Page 12: Further Explanation of NX and NCO
Foreign good purchases increase imports and thus reduce NX. U.S. dollar payments for these goods increase foreign ownership of U.S. assets, reducing NCO.
Page 13: Consistency of NX and NCO
Identity reinforces the interrelation between NX and NCO based on transaction impacts.
Page 14: Saving and Investment in an Open Economy
Open economy expression: Y = C + I + G + NX.
National saving: S = Y - C - G.
Rewrite to show relationship with NX and NCO.
Page 15: International Flows Summary
Trade Surplus: Exports > Imports (indicates positive NX).
Trade Deficit: Exports < Imports (indicates negative NX).
National savings implications for domestic spending and investment.
Page 16: Evaluating the U.S. Trade Deficit
Analysis of historical saving/investment trends before and after 1980 relating to capital outflows and trade deficits.
Page 17: Visual Representation of U.S. Saving, Investment, and NCO
Graph data illustrating changes in investment, saving, and NCO from 1950–2016.
Page 18: Implications of the U.S. Trade Deficit
Exploration of whether trade deficits cause concern, considering investment returns versus debt risks.
Page 19: Current Trade Deficit Statistics
U.S. foreign ownership of assets and net indebtedness figures as of June 30, 2016, showcasing the national debt.
Page 20: Understanding the Nominal Exchange Rate
Nominal Exchange Rate: Rate at which one currency trades for another.
Examples of exchange rates as of Nov 12, 2023 (e.g., Canadian dollar, Euro).
Page 21: Currency Appreciation
Definition of appreciation and its impact on currency value; example of dollar appreciation against yen.
Page 22: Currency Depreciation
Definition of depreciation and its impact on currency value; example of dollar depreciation against yen.
Page 23: The Real Exchange Rate
Real Exchange Rate Formula: e x P/P*
Explanation of the relationship between domestic and foreign prices in determining real exchange rates.
Page 24: Example with One Good - Big Mac
Real exchange rate computation using Big Mac prices in the U.S. and Japan as an illustration.
Page 25: Interpreting the Real Exchange Rate
Understanding the interpretation of the computed real exchange rate in terms of purchasing power.
Page 26: The Real Exchange Rate with Multiple Goods
Overview of the real exchange rate in relation to baskets of goods and price levels of those goods in different countries.
Page 27: Law of One Price
Concept that a good should have a consistent price across markets; introduction to arbitrage as a mechanism for price equalization.
Page 28: Law of One Price Example
Example of coffee prices illustrating arbitrage opportunities that equalize prices between markets.
Page 29: Purchasing-Power Parity (PPP)
Theory that currencies should have equivalent purchasing power in different countries.
Page 30: Example Application of PPP
Utilizing Big Mac pricing to calculate the exchange rate based on PPP principles.
Page 31: Implications of PPP
Implication of purchasing power equality leading to stability in real exchange rates under the PPP theory.
Page 32: More Implications of PPP
Changes in nominal exchange rates prompt changes in purchasing power when prices shift.
Page 33: Limitations of PPP
Insights into the practical limitations and inconsistencies of the PPP theory regarding currency valuations.
Page 34: Limitations Continued
Acknowledgment of real exchange rate fluctuations over time, indicating an imperfect correlation with the PPP theory.
Page 35: Historical Data - Inflation & Depreciation
Depiction of historical inflation rates and average annual currency depreciations against the U.S. dollar across various countries (1993–2003).
Page 36: Summary of Key Concepts
Definitions of NX and NCO and their implications for an economy's saving, investment, and international trade dynamics.
Page 37: Further Summary Points
Recap the relationship between nominal exchange rates, real exchange rates, and their price level determinations, focusing on inflation impacts.
Page 38: Conclusion of Exchange Rate Dynamics
Conclusion on how exchange rates reflect inflationary pressures and purchasing power in international economics.