This document contains a homework assignment on international macroeconomics involving 4 problems analyzing the effects of changes in foreign output, trade deficits, fiscal policy multipliers, and policy coordination between open economies. Problem 1 involves analyzing how an increase in foreign output affects domestic output and net exports. Problem 2 explores how an economy can eliminate a trade deficit by changing the real exchange rate and domestic demand. Problem 3 calculates fiscal multipliers under different import propensities and explores how openness affects fiscal policy effectiveness. Problem 4 models two open economies and examines the effects of unilateral versus coordinated fiscal policy changes on output, net exports, and budget deficits.
This document contains a homework assignment on international macroeconomics involving 4 problems analyzing the effects of changes in foreign output, trade deficits, fiscal policy multipliers, and policy coordination between open economies. Problem 1 involves analyzing how an increase in foreign output affects domestic output and net exports. Problem 2 explores how an economy can eliminate a trade deficit by changing the real exchange rate and domestic demand. Problem 3 calculates fiscal multipliers under different import propensities and explores how openness affects fiscal policy effectiveness. Problem 4 models two open economies and examines the effects of unilateral versus coordinated fiscal policy changes on output, net exports, and budget deficits.
This document contains a homework assignment on international macroeconomics involving 4 problems analyzing the effects of changes in foreign output, trade deficits, fiscal policy multipliers, and policy coordination between open economies. Problem 1 involves analyzing how an increase in foreign output affects domestic output and net exports. Problem 2 explores how an economy can eliminate a trade deficit by changing the real exchange rate and domestic demand. Problem 3 calculates fiscal multipliers under different import propensities and explores how openness affects fiscal policy effectiveness. Problem 4 models two open economies and examines the effects of unilateral versus coordinated fiscal policy changes on output, net exports, and budget deficits.
This document contains a homework assignment on international macroeconomics involving 4 problems analyzing the effects of changes in foreign output, trade deficits, fiscal policy multipliers, and policy coordination between open economies. Problem 1 involves analyzing how an increase in foreign output affects domestic output and net exports. Problem 2 explores how an economy can eliminate a trade deficit by changing the real exchange rate and domestic demand. Problem 3 calculates fiscal multipliers under different import propensities and explores how openness affects fiscal policy effectiveness. Problem 4 models two open economies and examines the effects of unilateral versus coordinated fiscal policy changes on output, net exports, and budget deficits.
International Macroeconomics Homework 07: The Goods Market in an Open Economy
Problem 1: Net exports and foreign demand
1. Suppose there is an increase in foreign output. Show the effect on the domestic economy (i.e., replicate Figure 18-4). What is the effect on domestic output? On domestic net exports? 2. If the interest rate remains constant, what will happen to domestic investment? If taxes are fixed, what will happen to the domestic budget deficit? 3. Using equation (18.5), what must happen to private saving? Explain. 4. Foreign output does not appear in equation (18.5), yet it evidently affects net exports. Explain how this is possible. Problem 2: Eliminating a trade deficit 1. Consider an economy with a trade deficit (NX < 0) and with output equal to its natural level. Suppose that, even though output may deviate from its natural level in the short run, it returns to its natural level in the medium run. Assume that the natural level is unaffected by the real exchange rate. What must happen to the real exchange rate over the medium run to eliminate the trade deficit (i.e., to increase NX to 0)? 2. Now write down the national income identity. Assume again that output returns to its natural level in the medium run. If NX increases to 0, what must happen to domestic demand (C + I + G) in the medium run? What government policies are available to reduce domestic demand in the medium run? Identify which components of domestic demand each of these policies affect. Problem 3: Multipliers, openness, and fiscal policy Consider an open economy characterized by the following equations: C = c0 + c1(Y - T) I = d0 + d1Y IM = m1Y X = x1Y* The parameters m1 and x1 are the propensities to import and export. Assume that the real exchange rate is fixed at a value of 1 and treat foreign income, Y *, as fixed. Also assume that taxes are fixed and that government purchases are exogenous (i.e., decided by the government). We explore the effectiveness of changes in G under alternative assumptions about the propensity to import. a. Write the equilibrium condition in the market for domestic goods and solve for Y. b. Suppose government purchases increase by one unit. What is the effect on output? (Assume that 0 < m1 < c1 + d1 < 1. Explain why.) c. How do net exports change when government purchases increase by one unit? Dr Mehdi ben Slimane Spring 2018
d. Now consider two economies, one with m1 = 0.5 and the other with m1 = 0.1. Each economy is characterized by (c1 + d1) = 0.6. e. Suppose one of the economies is much larger than the other. Which economy do you expect to have the larger value of m1? Explain. f. Calculate your answers to parts (b) and (c) for each economy by substituting the appropriate parameter values. g. In which economy will fiscal policy have a larger effect on output? In which economy will fiscal policy have a larger effect on net exports? Problem 4: Policy coordination and the world economy Consider an open economy in which the real exchange rate is fixed and equal to one. Consumption, investment, government spending, and taxes are given by C = 10 + 0.8(Y - T), I = 10, G = 10, and T = 10 Imports and exports are given by IM = 0.3Y and X = 0.3Y * where Y* denotes foreign output. a. Solve for equilibrium output in the domestic economy, given Y*. What is the multiplier in this economy? If we were to close the economy—so exports and imports were identically equal to zero—what would the multiplier be? Why would the multiplier be different in a closed economy? b. Assume that the foreign economy is characterized by the same equations as the domestic economy (with asterisks reversed). Use the two sets of equations to solve for the equilibrium output of each country. [Hint: Use the equations for the foreign economy to solve for Y* as a function of Y and substitute this solution for Y* in part (a).] What is the multiplier for each country now? Why is it different from the open economy multiplier in part (a)? c. Assume that the domestic government, G, has a target level of output of 125. Assuming that the foreign government does not change G*, what is the increase in G necessary to achieve the target output in the domestic economy? Solve for net exports and the budget deficit in each country. d. Suppose each government has a target level of output of 125 and that each government increases government spending by the same amount. What is the common increase in G and G* necessary to achieve the target output in both countries? Solve for net exports and the budget deficit in each country. e. Why is fiscal coordination, such as the common increase in G and G* in part (d), difficult to achieve in practice?
