International Macroeconomics (I)
November 29, 2001
Major Topics in International Macro
1. The global marketplace and the empire of the
dollar.
[2. The theory of comparative advantage: micro]
3. The balance of payments
4. Different exchange rate systems
5. Output determination and saving and
investment in the open economy
Major new issues introduced
by international economics
1. The economic implications of sovereignty
- Gains from trade and the law of comparative
advantage
- Can operate independent monetary, fiscal, and trade
policies
2. Countries operate with different currencies.
- This leads to area of international finance and to
exchange-rate economics.
… and can produce currency crises and international
financial disturbances
What is an open economy?
Trade in goods and services
- High ratio of imports and exports to total output
- Seen in equalization of prices of goods and factors
Finance: financial capital mobility
- Openness concerns the free flow of financial capital
across borders.
- Seen in the equalization of real interest rates and rates
of return.
Openness of US Economy
16
Import/GDP
14
Exports/GDP
12
10
8
6
4
2
1950
1960
1970
1980
1990
2000
80%
Gross foreign assets/GDP
Net foreign assets/GDP
60%
40%
20%
0%
-20%
-40%
1880
1900
1920
1940
1960
1980
2000
2020
What determines openness and level of trade?
Nature of goods
-Tradable goods and services
• cars, computers, wheat
- Non-traded goods and services
• haircuts, housing, roads
Technological factors
- Geography and transport costs
- Communications costs
- Size of economy
Policy factors
- Tariffs and other trade barriers
- “Culture”
The Balance of Payments
Def. The balance of payments is a
systematic record of payments between
a country and the rest of the world.
Accounting conventions
- A credit arises when $ come in.
- A debit arises when $ go out.
Make sure you understand
- BMWs, F-14s, IBM dividends
In the end, the B-P must balance
Debit
$
$
Credit
Essential balancing property
of Balance of Payments
Current Account
Financial Account
Net Balance
A
-A
0
- Example: I buy a Toyota and finance with a
loan from Toyota Leasing Co.
Balance of Payments for 2000
[billions of dollars]
Merchandise trade:
Exports
Imports
Services, net
Investment income (net)
Transfers and other (net)
Current Account:
Private capital flows (net)
Government assets (net)
Statistical discrepancy
Financial Account:
-452
772
-1224
76
-15
-54
- 445
407
37
1
445
Relation of Balance of Payments to Macro
Definition:
Net Exports (= X - Im) approximately equal to
Current Account
[Technical detail: Net exports differs because it excludes
transfers and adjusts for location of earnings.]
Determinants of Exports and Imports
I. Relative Prices (as in all economics)
- Define R = relative prices of domestic to foreign goods
- e.g., pFord/pToyota
- Then lower R stimulates exports and reduces imports,
raising NX
- Lower R can come from either change in foreignexchange rate or change in domestic price levels
2. Output changes (macro!)
- Increase in domestic output increases imports and
lowers our net exports
- Higher foreign output raises our exports and raises our
net exports.
- Rapid growth in U.S. in late 1990s, stagnation in
Japan and Europe → big increase in trade deficit
(negative net exports)
3. Interaction of trade and finance:
- Financial markets affect exchange rate, relative prices,
and trade flows.
- High US interest rates early 1980s → appreciation of
dollar → big decrease in NX.
The World Largest Deficit Country
5
4
Net exports/GDP (percent)
3
2
Dollar decline and
U.S. slowdown
1
0
-1
-2
High US interest
rates, dollar
appreciation,
trade deficit
-3
-4
1950
1960
1970
1980
1990
2000
Rapid
U.S.
growth;
flight to
safety
For next sessions:
1. What are exchange rates?
How do they help nations adjust?
Why do they cause crises when they
misbehave?
2. How does international trade affect the economy?
Why does a US slowdown cause problems in Mexico?
What are the causes and consequences of a large trade
deficit?