1. Section 8

2. International Trade

3. Key Terms Balance of Payments Accounts Purchasing Power Parity
Current Account
Exchange Rate Regime
Balance of Payments on Goods and Services
Fixed Exchange Rate
Floating Exchange Rate
Merchandise Trade Balance
Exchange Market Intervention
Financial Account (previously the Capital Account)
Foreign Exchange Reserves
Foreign Exchange Controls
Foreign Exchange Market
Devaluation
Exchange Rates
Revaluation
Appreciate
Protectionism
Depreciate
Tariffs
Equilibrium Exchange Rate
Import Quota
Real Exchange Rate

4. Key Formulas Balance of Payments Current Account = -Financial Account
*** statistical discrepancies may occur
Real Exchange Rate
Real Exchange Rate = foreign currency per US $ *(PUS)/(Pforeign)
Purchasing Power Parity
PPP = foreign price/domestic price
***PPP is the nominal exchange rate at which goods/services would cost the same amount in each country

5. The Balance of Payments
Current Account
Net Exports
Factor Income (Wages, Rent, Profit, Dividends, etc.)
Transfer Payments
Financial Account
Financial Assets (Stocks, Bonds, etc.)
Physical Assets (Real Estate, Corporations, etc.)

6. The Equilibrium Exchange Rate
Foreign currency/ dollar
US dollars on the x axis if it is the market for US dollars
Shifters

7. Exchange Rate Regimes Fixed vs. Floating Foreign currency/ dollar
US dollars on the x axis if it is the market for US dollars
Shifters

8. Shifters Interest Rates (double shift) Tastes and Preferences
Monetary policy
Tastes and Preferences
Inflation
Economic Growth
International Business Cycles
Trade Restrictions
Currency Restrictions

9. Capital Flows Trade Surplus = net capital outflow
Trade Deficit = net capital inflow

10. Capital Flows

11. Tariffs Demand for ceramic plates with imports World price = $9
With import tariff of $3 – supply of the rest of the world shifts up (it appears to be $12 even if is being sold from foreign country at $9, govt just gets $4)
Result --- more domestic sales
P Q represent no trade equilibirum

12. Import Quotas
If the US could import 3 million ceramic plates, that would bring the price down to $9 --- if the import quota is 2 million, that limits supply available to the US market, results in a higher price
Supply + quota line --- add quota to supply – find equilibrium with demand

13. AP Exam Tips
The Current Account includes goods and services, factor income, and cash transfers such as foreign aid, gifts, and grants.
The Financial Account tracks assets such as real estate, stocks and bonds. Dividends and interest paid are not assets, so they are counted in the Current Account.
The current and financial accounts balance each other out. If there is a surplus in one account there is a deficit in the other.
The financial account will have capital inflows and capital outflows based on changes in interest rates. This is financial capital and not capital in the form of machinery and equipment used in the production process.
The foreign exchange market appears frequently on the AP exam. You will likely be asked to graph and explain this market in the FR section.
Think of a fixed exchange rate as a price ceiling or a price floor. That will help you understand if there is a shortage (ceiling) or surplus (floor) of a nation’s currency.
Fixed Exchange Rates: A devaluation of a nation’s currency makes exports increase because they appear cheaper to foreign buyers. A revaluation makes exports decrease because they appear more expensive.
The effects of tariffs and quota can be shown on supply and demand graphs. Remember this is a micro graph, with Price and Quantity on the axes rather than Price Level and RGDP.
Tariffs provide revenue to the government, quotas do not.