VII.   THE  OPEN  ECONOMY

Readings

• Mankiw, Macroeconomics, ch. 7

• Notes on National Income and Balance of Payments Accounts
• Notes on the Balance of Payments in a One-Currency World and a Multi-Currency World
• Notes on Exchange Rates, Purchasing Power Parity, and Interest Rate Parity

• "Foreign Investment in U.S. Surged in 1994", The Wall Street Journal, March 15, 1995
• "U.S. Trade Gap Widened Again in ’94, Making 13 Straight Years of Deficits", The Wall Street Journal, March 15, 1995
• "Schools Brief: In Defence of Deficits", The Economist, December 16, 1995
• "China’s Currency: About to Crack?", The Economist, September 26, 1998
• "Big MacCurrencies", The Economist, April 11, 1998
• "Toyota and Nissan Increase '95 Prices On More Imports", The Wall Street Journal, September 6, 1994

This module deals with the economic interactions between the domestic economy and the rest of the world. We begin with an enumeration of several types of international transactions. We show how these transactions are recorded in the Balance of Payments Accounts and how those accounts are related to the National Income and Product Accounts. Exchanges (exports and imports) of newly produced goods and services are recorded in the current account of the balance of payments. Exchanges of assets are recorded in the capital account. The current account balance must be equal to but opposite in sign from the capital account balance, implying that the two balances must sum to zero. We show how the exchange rate adjusts to bring about this equality.  We discuss the determinants of the trade balance and the long-run behavior of exchange rates.