MGEC62H3 Chapter : MMKM Notes
18 Oct 2011
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Document Summary
Equilibrium in a closed economy is determined by 3 conditions: (a) producer optimization, (b) consumer optimization, and (c) market clearing. If production and consumption are competitive, the closed economy equilibrium is efficient in the sense that the economy attains the highest community indifference curve subject to the feasibility of production. International trade removes the constraint that an economy consumes only what it produces. It also replaces the market clearing condition for equilibrium with the much weaker condition that the value of total production must equal the value of total consumption. This restriction is exactly equivalent to the total restriction that the value of imports must equal the value of exports. This function gives the country"s desired imports or exports at all possible price ratios. This curve slopes downward like a conventional demand curve, except that the quantity demanded can be either positive or negative. A negative excess demand simply means that the country wishes to export at a given price.
