Unit 14. International Trade and the Balance of Payments

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Unit 14. International Trade and the Balance of
Payments

• IES Lluís de Requesens (Molins de Rei)?
• Batxillerat Social
• Economics (CLIL) Innovació en Llengües
  Estrangeres
• Jordi Franch Parella

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International Trade and the Balance of Payments

• A closed economy is one that does not interact
  with other nations (no exports, no imports, no
  capital flows)?
• An open economy interacts freely with other
  nations (both in product and financial markets)?
• Trade Balance Export Imports
• Exports gt Imports --gt trade surplus
• Exports lt Imports --gt trade deficit

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International Trade and the Balance of Payments

• Factors that affect net exports
• Prices of goods at home and abroad
• Exchange rates
• Tastes for domestic and foreign goods
• Incomes at home and abroad
• Capital outflow is the purchase of foreign
  assets by domestic residents
• Capital inflow is the purchase of national assets
  by foreign residents (a mexican that buys
  Telefonica shares)?

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International Trade and the Balance of Payments

• Factors that influence net capital outflow
• The real interest rates (foreign and domestic,
  abroad and at home)?
• The risk of holding assets abroad
• Net exports Net capital outflows
• Y C I G NX
• Y C G I NX
• Saving Investment Net Capital Outflow

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International Trade and the Balance of Payments

• The exchange rate is the price of a currency in
  terms of another currency
• Appreciation is the increase in the value of a
  currency
• Depreciation is the decrease in the value of a
  currency
• The real exchange rate is the rate at which a
  person can trade the goods and services of one
  country in terms of another country

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International Trade and the Balance of Payments

• Real exchange rate Nominal exchange rate x
  domestic price / foreign price
• A depreciation in euro real exchange rate means
  that european goods have become cheaper relative
  to foreign goods
• As a result european imports fall and exports rise

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International Trade and the Balance of Payments

• According to the Purchasing-Power Parity Theory,
  a good must sell for the same price in all
  nations
• If 1 1,3 , and 1 Burger King costs you 2
  in Spain and 2,5 in New York, the is
  overvalued and the undervalued
• You buy and sell --gt the appreciates and
  the deppreciates until 1 1,25
• Arbitrage is taking advantage of differences in
  prices in different markets

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International Trade and the Balance of Payments

• If arbitrage occurs, prices that differ in two
  different markets would converge
• According to Purchasing-Power Parity, exchange
  rates have to ensure that the currencies have the
  same purchasing power in all countries
• Nominal exchange rates must change with prices.
  If 1 1 and prices double in Europe, then 1
  0,5
• Limitations of PPP many goods are not easily
  traded and are not perfect substitutes

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International Trade and the Balance of Payments

• Net exports Capital outflow (Net imports
  Capital inflow)?
• Domestic Saving Investment (at home) Purchase
  of assets (abroad)?
• The nominal exchange rate is the relative price
  of the currency of two countries
• The real exchange rate is the relative price of
  the goods of two countries

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International Trade and the Balance of Payments
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International Trade and the Balance of Payments

• According to Power-Purchasing Parity, a unit of
  currency should buy the same quantity of goods in
  all countries
• The nominal exchange rate between the currencies
  of two countries should reflect the countries'
  price levels in those countries
• At the equilibrium of the (real) interest rate,
  the amount that people save exactly balances the
  domestic investment plus the net foreign
  investment

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International Trade and the Balance of Payments

• In an open economy, government budget deficits
• Reduce the total saving and the supply of
  loanable funds
• Crowd oud private sector
• Drive up the interest rate
• Cause net foreign investment to fall