Exam 5: Elasticity and Its Application

a. In September 1995, Patrick Buchanan, a Republican candidate for president, proposed a 10 percent tariff on Japanese imports to the United States, a 20 percent tariff on Chinese imports to the United States, and an unspecified "social" tariff on imports from third-world countries. Use the long-run model of a small open economy to illustrate graphically the impact of these trade policies on the U.S. exchange rate and the trade balance. Assume that the country starts from a position of trade balance, i.e., exports equal imports. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; and v. the new long-run equilibrium values. b. Based on your graphical analysis, explain the predicted impact of Mr. Buchanan's proposed policies. Specifically state what happens to the exchange rate, the trade balance, the volume of imports, and the volume of exports.

In a small open economy, if the world real interest rate is above the rate at which national saving equals domestic investment, then there will be a trade and net capital outflow.

In a small open economy, starting from a position of balanced trade, if the government increases the income tax, this produces a tendency toward a trade and net capital outflow.

In a country with a small open economy, the real interest rate will always be:

The value of net exports is also the value of:

a. In April 1995, Michel Camdessus, managing director of the International Monetary Fund (IMF), criticized U.S. economic policy for allowing the dollar exchange rate to fall too low. He recommended that the United States reduce its budget deficit in order to raise the exchange rate. Use the long-run model of a small open economy to illustrate graphically the impact of reducing the government's budget deficit on the exchange rate and the trade balance. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; and v. the new long-run equilibrium values. b. Based on your graphical analysis, explain whether Mr. Camdessus's policy recommendation will work. Specifically state what happens to the exchange rate and the trade balance as a result of the government budget deficit reduction.

In a small, open economy, if net exports are negative, then:

Suppose that the large industrial countries of the world are concerned about the depreciating currencies of a number of small open economies. a. What type of fiscal policies must the large industrial countries undertake in order to promote currency appreciation in the small open economies? b. Illustrate graphically the impact of the industrial countries' policies on the exchange rate of the small open economies. c. What will happen to the trade balance of the typical small open economy, assuming that it starts from a position of balanced trade?

Building an economic model based on the assumption of a small open economy is useful because:

Exhibit: Saving and Investment in a Small Open Economy   Reference: Ref 5-1 (Exhibit: Saving and Investment in a Small Open Economy) In a small open economy, if the world interest rate is r ,then the economy has:

If a U.S. corporation sells a product in Canada and uses the proceeds to purchase a product manufactured in Canada, then U.S. net exports and net capital outflows .

In a small open economy, if domestic saving exceeds domestic investment, then the extra saving will be used to:

Assume that in a small open economy with full employment, consumption depends only on disposable income. National saving is 300, investment is given by I = 400 - 20r, where r is the real interest rate in percent, and the world interest rate is 10 percent. a. If government spending rises by 100, does investment change? What is the level of investment after the change? b. Does the trade balance change if G rises by 100? If it changes, does it increase or decrease, and by how much? c. Does net capital outflow change if G rises by 100? If it changes, does it increase or decrease, and by how much? d. Will the real exchange rate rise, fall, or remain constant as a result of the change in G?

A trade deficit can be financed in all of the following methods except by:

a. If corporate downsizing and lack of job security cause consumers to spend less and save more, what will be the impact on the exchange rate and trade balance? Use the long-run model of a small open economy to illustrate graphically the impact of this decline in consumer confidence on the exchange rate and the trade balance. Assume the country starts from a position of trade balance, i.e., exports equal imports. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; and v. the new long-run equilibrium values. b. Based on your graphical analysis, explain the predicted impact of a decline in consumer confidence on the exchange rate and the U.S. trade balance.

If a U.S. corporation sells a product in Europe and uses the proceeds to purchase shares in a European corporation, then U.S. net exports and net capital outflows .

Starting from trade balance, if the world interest rate falls, then, holding other factors constant, in a small open economy the amount of domestic investment will and net exports will .

Net capital outflow is equal to the amount that:

In a small open economy, policies that increase:

In a small open economy, starting from a position of balanced trade, if the government increases domestic government purchases, this produces a tendency toward a trade and net capital outflow.