Chapter 19 - A Macroeconomic Theory of the Open Economy

Long-run equilibrium Potential GDP = Actual GDP

Actual Price Level = Expected Price Level

NX = NCO = S - I

Net exports equal net capital outflow, which equals national saving minus domestic investment.

S = I+NCO

Saving = domestic investment + net capital outflow

When the dollar appreciates in the market for foreign-currency exchange, domestic goods become more expensive compared with foreign goods.

This appreciation encourages imports and discourages exports, and both changes offset the direct increase in net exports due to the import quota.

When NCO > 0, the country has a net outflow of capital; the net purchase of capital overseas adds to the demand for domestically generated loanable funds.

When NCO < 0, the country has a net inflow of capital; the capital resources coming from abroad reduce the demand for domestically generated loanable funds.

in an open economy, a government budget deficit represents negative public saving, it reduces national saving (the sum of public and private saving).

a government budget deficit reduces the supply of loanable funds, drives up the interest rate, and crowds out investment.

capital flight

a large and sudden reduction in the demand for assets located in a country

import quota

a limit on the quantity of a good produced abroad that can be sold domestically.

tariff

a tax on imported goods.

What is one of the reasons the demand curve for loanable funds is downward sloping in a large open economy? a. A higher real interest rate makes borrowing more expensive. b. A lower real interest rate discourages investment. c. A lower real interest rate discourages domestic consumers from buying foreign assets and encourages foreigners to buy domestic assets. d. A higher real interest rate encourages people to save.

a. A higher real interest rate makes borrowing more expensive.

Which of the following statements regarding the loanable-funds market is true? a. An increase in the government budget deficit shifts the supply of loanable funds to the left. b. An increase in the government budget deficit shifts the supply of loanable funds to the right. c. A decrease in the government budget deficit increases the real interest rate. d. An increase in private saving shifts the supply of loanable funds to the left.

a. An increase in the government budget deficit shifts the supply of loanable funds to the left.

What is the impact of a federal budget surplus on the open economy? a. Lower interest rates, increased net capital outflow, lower exchange rates b. Lower interest rates, decreased net capital outflow, higher exchange rates c. Higher interest rates, decreased net capital outflow, higher exchange rates d. Higher interest rates, increased net capital outflow, lower exchange rates

a. Lower interest rates, increased net capital outflow, lower exchange rates

Why is the supply curve for dollars in the foreign-currency exchange market vertical in an open economy? a. Net capital outflow is determined by the real interest rate, not the real exchange rate. b. Net capital outflow is determined by real GDP, not the real exchange rate. c. Net capital outflow equals net exports. d. Net capital outflow is extremely sensitive to small changes in the real exchange rate.

a. Net capital outflow is determined by the real interest rate, not the real exchange rate.

What is the impact of political instability on the open market? a. Political instability will likely cause an increase in net capital outflow, an increase in the real interest rate, and cause the domestic currency to depreciate. b. Political instability will likely cause a decrease in net capital outflow, a decrease in the real interest rate, and cause the domestic currency to depreciate. c. Political instability will likely cause an increase in net capital outflow, a decrease in the real interest rate, and cause the domestic currency to depreciate. d. Political instability will likely cause an increase in net capital outflow, an increase in the real interest rate, and cause the domestic currency to appreciate. Replay

a. Political instability will likely cause an increase in net capital outflow, an increase in the real interest rate, and cause the domestic currency to depreciate.

Which of the following is true at the equilibrium real interest rate in an open economy? a. Saving = Domestic investment + Net capital outflow b. Saving = Net exports c. Saving = Domestic investment d. Saving = Net capital outflow

a. Saving = Domestic investment + Net capital outflow

If the United States imposes a quota on the importing of steel produced in Europe, which of the following is true regarding the market for foreign-currency exchange? a. The demand for dollars increases and the dollar appreciates. b. The demand for dollars decreases and the dollar depreciates. c. The supply of dollars increases and the dollar depreciates. d. The supply of dollars decreases and the dollar appreciates.

a. The demand for dollars increases and the dollar appreciates.

The phrase "twin deficits" refers to _______. a. a country's trade deficit and its government budget deficit b. a country's trade deficit and its net capital outflow deficit c. the fact that if a country has a trade deficit, its trading partners must also have trade deficits d. the equality of a country's saving deficit and its investment deficit

a. a country's trade deficit and its government budget deficit

An example of trade policy is _______. a. a tariff on sugar imports b. capital flight because it increases a country's net exports c. an increase in the government budget deficit because it reduces a country's net exports d. an increase in private saving because it increases a country's net exports

a. a tariff on sugar imports

The nation of Elbonia has long banned the export of its highly prized puka shells. A newly elected president, however, removes the export ban. This change in policy causes the nation's currency to ________, making the goods Elbonia imports ________ expensive. a. appreciate; less b. depreciate; less c. depreciate; more d. appreciate; more

a. appreciate; less

In the model just developed, two markets determine two prices, which are _________. a. the real exchange rate and the real interest rate b. the real exchange rate and the nominal interest rate c. the nominal exchange rate and the real interest rate d. the nominal exchange rate and the nominal interest rate

a. the real exchange rate and the real interest rate

Which of the following statements regarding the market for foreign-currency exchange is true? a. An increase in U.S. net capital outflow increases the demand for dollars and the dollar appreciates. b. An increase in U.S. net capital outflow increases the supply of dollars and the dollar depreciates. c. An increase in U.S. net capital outflow increases the supply of dollars and the dollar appreciates. d. An increase in U.S. net capital outflow increases the demand for dollars and the dollar depreciates.

b. An increase in U.S. net capital outflow increases the supply of dollars and the dollar depreciates.

Suppose, due to political instability, Venezuelans suddenly choose to invest in U.S. assets as opposed to Venezuelan assets. Which of the following statements is true regarding U.S. net capital outflow? a. U.S. net capital outflow rises. b. U.S. net capital outflow falls. c. U.S. net capital outflow is unchanged because only U.S. residents can alter U.S. net capital outflow. d. None of the answer choices are correct.

b. U.S. net capital outflow falls.

Other things unchanging, a higher U.S. real interest rate _______. a. increases U.S. net capital outflow because U.S. residents and foreigners prefer to invest in the United States b. decreases U.S. net capital outflow because U.S. residents and foreigners prefer to invest in the United States c. decreases U.S.net capital outflow because U.S. residents and foreigners prefer to invest abroad d. none of the answer choices

b. decreases U.S. net capital outflow because U.S. residents and foreigners prefer to invest in the United States

Holding other things constant, an appreciation of a nation's currency causes ________. a. exports to rise and imports to fall b. exports to fall and imports to rise c. both exports and imports to rise d. both exports and imports to fall

b. exports to fall and imports to rise

The government in an open economy cuts spending to reduce the budget deficit. As a result, the interest rate ________, leading to a capital ________ and a currency ________. a. falls; outflow; appreciation b. falls; outflow; depreciation c. falls; inflow; appreciation d. rises; inflow; appreciation

b. falls; outflow; depreciation

In the market for foreign exchange, the supply of U.S. currency is equal to _______. a. net exports b. net capital outflow c. the supply of loanable funds d. domestic purchases of foreign assets

b. net capital outflow

Which of the following statements about trade policy is true? a. A restrictive import quota increases a country's net exports. b. A restrictive import quota decreases a country's net exports. c. A country's trade policy has no impact on the size of its trade balance. d. None of the answer choices are correct.

c. A country's trade policy has no impact on the size of its trade balance.

Which of the following statements regarding the market for foreign-currency exchange is true? a. An increase in U.S. net exports decreases the demand for dollars and the dollar appreciates. b. An increase in U.S. net exports increases the supply of dollars and the dollar depreciates. c. An increase in U.S. net exports increases the demand for dollars and the dollar appreciates. d. An increase in U.S. net exports decreases the supply of dollars and the dollar depreciates.

c. An increase in U.S. net exports increases the demand for dollars and the dollar appreciates.

Which of the following groups would be most harmed by a U.S. government budget deficit? a. Canadians who wish to buy assets in the United States b. Lenders of loanable funds c. Boeing Aircraft Manufacturing wishing to sell jets to Indonesia d. U.S. residents wishing to buy Toyotas produced in Japan

c. Boeing Aircraft Manufacturing wishing to sell jets to Indonesia

If the United States imposes a quota on the importing of steel produced in Europe, which of the following is true regarding U.S. net exports? a. Net exports will rise. b. Net exports will fall. c. Net exports will remain unchanged. d. None of the answer choices are correct.

c. Net exports will remain unchanged.

Suppose, due to political instability, Venezuelans suddenly choose to purchase U.S. assets as opposed to Venezuelan assets. Which of the following statements is true regarding the value of the dollar and U.S. net exports? a. The dollar appreciates, and U.S. net exports rise. b. The dollar depreciates, and U.S. net exports rise. c. The dollar appreciates, and U.S. net exports fall. d. The dollar depreciates, and U.S. net exports fall.

c. The dollar appreciates, and U.S. net exports fall.

If business leaders in Great Britain become more confident in their economy, they will increase investment, causing the British pound to ________ and pushing the British trade balance toward ________. a. depreciate; surplus b. appreciate; surplus c. appreciate; deficit d. depreciate; deficit

c. appreciate; deficit

An increase in the U.S. government budget deficit _______. a. increases U.S. net exports and decreases U.S. net capital outflow b. increases U.S. net exports and U.S. net capital outflow the same amount c. decreases U.S. net exports and U.S. net capital outflow the same amount d. decreases U.S. net exports and increases U.S. net capital outflow

c. decreases U.S. net exports and U.S. net capital outflow the same amount

An increase in U.S. private saving _______. a. increases U.S. net exports and decreases U.S. net capital outflow b. decreases U.S. net exports and U.S. net capital outflow the same amount c. increases U.S. net exports and U.S. net capital outflow the same amount d. decreases U.S. net exports and increases U.S. net capital outflow

c. increases U.S. net exports and U.S. net capital outflow the same amount

An increase in the government budget deficit _______. a. could increase or decrease the real interest rate depending on whether the budget deficit is the result of higher government spending or lower tax collections b. has no impact on the real interest rate and fails to crowd out investment because foreigners buy assets in the deficit country c. increases the real interest rate and crowds out investment d. decreases the real interest rate and crowds out investment

c. increases the real interest rate and crowds out investment

Which of the following statements regarding the loanable-funds market is not true? a. An increase in a country's net capital outflow raises its real interest rate. b. A decrease in a country's net capital outflow shifts the demand for loanable funds to the left. c. An increase in domestic investment shifts the demand for loanable funds to the right. d. An increase in a country's net capital outflow shifts the supply of loanable funds to the left.

d. An increase in a country's net capital outflow shifts the supply of loanable funds to the left.

Which of the following groups would not benefit from a U.S. import quota on Chinese apparel? a. Stockholders of Levi Jeans b. Members of the Textile Workers Union of America c. U.S. consumers who buy electronics from China d. U.S. farmers who export grain to China

d. U.S. farmers who export grain to China

An export subsidy should have the opposite effect of _______. a. a government budget deficit b. capital flight c. an increase in private saving d. a tariff

d. a tariff

An increase in Mexico's taste for U.S.-produced goods would cause the dollar to _______. a. appreciate and would decrease U.S. net exports b. appreciate and would increase U.S. net exports c. depreciate and would increase U.S. net exports d. appreciate, but the total value of U.S. net exports stays the same e. depreciate and would decrease U.S. net exports

d. appreciate, but the total value of U.S. net exports stays the same

Holding other things constant, an increase in a nation's interest rate reduces _________. a. national saving and domestic investment b. national saving and the net capital outflow c. national saving only d. domestic investment and the net capital outflow

d. domestic investment and the net capital outflow

Capital flight _______. a. decreases a country's net exports and decreases its long-run growth path b. decreases a country's net exports and increases its long-run growth path c. increases a country's net exports and increases its long-run growth path d. increases a country's net exports and decreases its long-run growth path

d. increases a country's net exports and decreases its long-run growth path

Other things equal, an increase in the U.S. net capital outflow ________ the demand for loanable funds and ________ the supply of dollars in the market for foreign currency exchange. a. decreases; increases b. increases; decreases c. decreases; decreases d. increases; increases

d. increases; increases

A civil war abroad causes foreign investors to move their funds to the safe haven of the United States, leading to ________U.S. interest rates and a ________ U.S. dollar. a. higher; stronger b. higher; weaker c. lower; weaker d. lower; stronger

d. lower; stronger

Suppose the economy is in long-run equilibrium and potential GDP is $13 trillion. Actual GDP would be _______. equal to $13 trillion greater than $13 trillion less than $13 trillion $6.5 trillion

equal to $13 trillion

Graphically speaking, long-run equilibrium occurs where short-run aggregate supply equals aggregate demand on the market demand curve. True False

false

trade policy

government policy that directly influences the quantity of goods and services that a country imports or exports

NCO = NX

net capital outflow = net exports