Macroeconomics – Unit 6

An open economy (as opposed to a _________ economy) interacts with the rest of the world through... Goods market Financial markets (1) (2) closed

The exchange rate for a currency impacts a country’s exports. If the British pound depreciates relative to the US dollar, will people want to buy more Cadbury’s chocolate or Hershey’s chocolate?

If real interest rates are higher in Mexico than in the USA, will investors want to buy bonds from Mexico or from the USA?

If the Japanese yen appreciates relative to the US dollar what will happen to the exports of US beef? To buy something from a country you must pay in that country’s currency.

A. The Balance of Payments records all these types of international transactions. If the transaction required us to purchase & spend foreign currency to complete the transaction it is recorded as a debit Money flows out of the country. 6 of 21

Balance of Payments If the transaction required others to purchase our currency to complete the transaction, it is recorded as a credit. Money flows into the country.

The Balance of Payments includes 2 main sub divisions… Current AccountCapital Account Tracks flows of 1- financial assets 2- real assets Tracks flows of goods & services

In Theory the current account must “balance” with the Capital Account and the Financial Account Current Account Capital Account = 9 of 21

Exports – domestically produced goods & services that are sold abroad Imports – foreign produced goods & services that are sold domestically Net exports = exports – imports also called our trade balance B.goods & services

Net exports = exports – imports also called our trade balance ______ ______ - when country sells more abroad than it buys ______ ______ - sells fewer goods & services abroad than it buys trade surplus trade deficit

Net capital outflow = If US citizen buys stock in British Petroleum Corp., net capital outflow will ___________ increase C. financial markets purchase of foreign assets by domestic residents minus purchase of domestic assets by foreigners

Net capital outflow financial markets If a Mexican citizen buys stock in KFC., net capital outflow will _________. decrease

When net capital outflow is negative, then domestic residents are buying _________ foreign assets than foreigners are buying domestic. fewer Capital is said to be “flowing into” the country. 14 of 21

When net capital outflow is positive then domestic residents are buying _________ foreign assets than foreigners are buying domestic. more Capital is said to be “flowing out” of the country.

Nominal exchange rate -- rate at which a person can trade the currency of one country for he currency of another most countries have free floating exchange rates which are determined by an interaction of supply & demand D. exchange rates S D Q of US $ Br. Pound / US $ Exchange Rate US $

appreciation – an increase in the value of a currency as measured by the amount of a foreign currency it can buy depreciation – a decrease in the value of a currency as measured by the amount of foreign currency it can buy

It’s Easter and Americans want to buy Cadbury’s crème eggs. S D Q of Br. Pounds US $ / Br. Pound Exchange Rate S D Q of US $ Br. Pound / US $ Exchange Rate What happens to the value of the pound? Value of the US dollar? Americans must supply their dollars & demand US pounds. S1S1 D1D1 18 of 21

Let’s say interest rates are higher in the USA than in Mexico. Where will investors from Mexico want to invest? S D Q of Mex. Pesos US $ / Mex. peso Exchange Rate S D Q of US $ Mex. Peso / US $ Exchange Rate What happens to the value of the peso? Value of the US dollar? S1S1 D1D1

Spain is the new hot travel destination among Mexicans. S D Q of Mex. Pesos US $ / Mex. peso Exchange Rate S D Q of Euros Mex. Peso / Euro Exchange Rate What happens to the value of the peso? Value of the Euro? S1S1 D1D1

American kids go nuts for the newest video games out of Japan. S D Q of yen US $ / yen Exchange Rate S D Q of US $ yen / US $ Exchange Rate What happens to the value of the yen? Value of the US dollar? S1S1 D1D1 21 of 21