ECO209Y1 Lecture Notes - Lecture 8: Equilibrium Level, Shortage, Capital Account

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4 Dec 2017
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Lecture 8: open economy with fixed exchange rates. Balance of payments = balance in current account. Competitiveness depends on real value of exchange rate. Gain competitiveness if foreign inflation is faster than domestic. Increase in real exchange rate increases net exports. Canadian goods become less expensive more competitive in international market. Since cf = 0, bp in equilibrium when current account in equilibrium. Changes in interest level have no impact on imports or exports. Since assuming fixed exchange rate, bp not necessarily in equilibrium. If balance of payment in disequilibrium, exchange market also in disequilibrium. If bp < 0, there is a deficit and excess market demand, the central bank sells foreign currency. Value of imports greater than value of exprts. If bp > 0, there is a surplus and excess supply, the central bank buys foreign currency. As income rises, imports increase and exports remain constant. Economy can be at equilibrium when balance of payments is not.

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