Macroeconomics

Summary

1.

Net exports are the difference between exports and imports. They are equal

to the difference between what we produce and what we demand for con-

sumption, investment, and government purchases.

2.

The net capital outflow is the excess of domestic saving over domestic

investment. The trade balance is the amount received for our net exports of

goods and services. The national income accounts identity shows that the

net capital outflow always equals the trade balance.

3.

The impact of any policy on the trade balance can be determined by

examining its impact on saving and investment. Policies that raise saving or

lower investment lead to a trade surplus, and policies that lower saving or

raise investment lead to a trade deficit.

4.

The nominal exchange rate is the rate at which people trade the currency

of one country for the currency of another country. The real exchange rate

is the rate at which people trade the goods produced by the two countries.

The real exchange rate equals the nominal exchange rate multiplied by the

ratio of the price levels in the two countries.

5.

Because the real exchange rate is the price of domestic goods relative to

foreign goods, an appreciation of the real exchange rate tends to reduce net

exports. The equilibrium real exchange rate is the rate at which the quanti-

ty of net exports demanded equals the net capital outflow.

6.

The nominal exchange rate is determined by the real exchange rate and the

price levels in the two countries. Other things equal, a high rate of inflation

leads to a depreciating currency.

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P A R T   I I

Classical Theory: The Economy in the Long Run

K E Y   C O N C E P T S

Net exports

Trade balance

Net capital outflow

Trade surplus and trade deficit

Balanced trade

Small open economy

World interest rate

Nominal exchange rate

Real exchange rate

Purchasing-power parity

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C H A P T E R   5

The Open Economy

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