Deck 32: A Macroeconomic Theory of the Open Economy

Question 1

Net foreign investment represents the quantity of dollars demanded in the foreign-currency exchange market.

Answer 1

False

Question 2

The price of imports will increase on the domestic market if two conditions are fulfilled: a strong local currency and a shortage of supply.

Answer 2

False

Question 3

In an open economy, a rise in government budget deficit will cause the dollar to appreciate and push the trade balance towards surplus.

Answer 3

False

Question 4

For given risk levels, a relatively higher return in one country will lead to capital inflow to that country.For given returns, a relatively higher degree of risk in one country will lead to capital outflows from that country.

Question 5

The supply of loanable funds comes from:

A)the government
B)national saving
C)domestic investment
D)foreign sources

Question 6

According to the theory of purchasing-power parity, the demand curve is horizontal at the level of the real exchange rate that ensures parity of purchasing power at home and abroad.

Question 7

In an open economy, domestic investment equals:

A)net capital inflows
B)net capital outflows
C)domestic saving
D)domestic saving plus net capital inflows

Question 8

Net foreign investment must be equal to current balance.

Question 9

If exports are greater than imports, the country is said to have a:

A)trade advantage
B)trade balance
C)trade surplus
D)trade deficit

Question 10

The concept of income elasticity of demand is also an explanation of how nations behave when the cost of luxury imports increase in price.

Question 11

In the market for foreign-currency exchange, supply comes from net foreign investment, demand comes from the current account balance, and the real exchange rate balances supply and demand.

Question 12

One way to stop capital flight is for that country's central bank to raise interest rates above and beyond foreign investors' expectation.

Question 13

The demand for loanable funds comes from domestic investment and net foreign investment.

Question 14

Because trade policies do not affect a country's overall trade balance, they also do not affect specific firms, industries and foreign countries.

Question 15

A strong domestic dollar, ceteris paribus, may have minimal impact on export industries.

Question 16

The current account is defined as that part of the balance of payments that records transactions leading to a change of ownership of commodities, or a direct flow of income or similar payment.

Question 17

Whereas in the long-run macroeconomic model of a closed economy, monetary changes affect only nominal variables, in the long-run macroeconomic model of an open economy, monetary changes also affect real variables.

Question 18

At the equilibrium real interest rate, the amount that people (including government) want to save exactly balances the desired quantity of net foreign investment.

Question 19

In recent times China overtook Germany to become the world's biggest exporter.On one measure it now looks likely to become the world's biggest economy within 10 years.

Question 20

In an open economy, a government budget deficit raises real interest rates, crowds out domestic investment, causes the currency to appreciate and pushes the trade balance towards deficit.

Question 21

In the open economy:

A)Net foreign investment = Exports
B)Net foreign investment = Imports
C)Net foreign investment = Net exports
D)Net foreign investment = Exports - Imports
E)both C and D

Question 22

In an open economy, the domestic real interest rate is determined by:

A)domestic saving
B)domestic investment
C)domestic saving and domestic investment
D)domestic saving, domestic investment and net capital inflows

Question 23

If the market for foreign-currency supply comes from _____, demand comes from the _____.

A)net foreign investment; current account balance
B)trade deficit; capital outflows
C)capital account deficit; current account deficit
D)capital account surplus; current account surplus

Question 24

A country with a low saving rate tends to have a _____ domestic real interest rate that will _____ capital inflows.

A)high; attract
B)high; discourage
C)high; not affect
D)low; attract

Question 25

In the market for foreign-currency exchange, E₁ is:

A)the price of goods and services in the present relative to goods and services in the future
B)the price of goods and services in the future relative to goods and services in the present
C)the price of foreign goods and services relative to domestic goods and services
D)the price of domestic goods and services relative to foreign goods and services

Question 26

Introducing tariffs will _____ exports, _____ imports, leaving _____ unaffected.

A)reduce; reduce; trade balance
B)reduce; raise; national income
C)reduce; reduce; national income
D)reduce; raise; trade balance

Question 27

NARRBEGIN: 13-2
Graph 13-2
In Graph 13-2, an increase in the government budget deficit causes the equilibrium interest rate to:

A)be unchanged
B)increase from r₁ to r₂ in panel (a)
C)increase from E₁ to E₂ in panel (c)
D)decrease from r₂ to r₁ in panel (a)
E)both B and C

Question 28

In an open economy, an increase in capital inflows ______ the equilibrium domestic real interest rate and ______ the quantity of domestic investment.

A)increases; increases
B)increases; decreases
C)decreases; does not change fall
D)decreases; increases

Question 29

An appreciation of the Australian real exchange rate _____ the quantity of dollars demanded in the market for foreign-currency exchange.

A)reduces
B)increases
C)leaves unchanged
D)could have any effect on

Question 30

In the macroeconomic model of the open economy developed in the text, if the central bank increases the money supply, the price level will:

A)rise, the real interest rate will rise, the nominal interest rate will rise, the real exchange rate will rise and the nominal exchange rate will rise
B)rise, the real interest rate will be unaffected, the nominal interest rate will rise, the real exchange rate will be unaffected and the nominal exchange rate will rise
C)rise, the real interest rate will be unaffected, the nominal interest rate will be unaffected, the real exchange rate will be unaffected and the nominal exchange rate will be unaffected
D)rise, the real interest rate will be unaffected, the nominal interest rate will rise, the real exchange rate will be unaffected and the nominal exchange rate will fall

Question 31

If the interest rate were below the equilibrium level, the quantity of loanable funds supplied would _____ the quantity demanded.

A)be greater than
B)exactly equal
C)be less than
D)be independent of

Question 32

In the market for foreign-currency exchange, the demand curve represents:

A)national saving
B)private saving
C)net foreign investment
D)domestic investment
E)none of the above

Question 33

In an open economy, an increase in national saving _______ the equilibrium domestic real interest rate and the quantity of net capital inflows _____ and the quantity of domestic investment ______.

A)increases; increases; increases
B)increases; increases; decreases
C)increases; decreases; decreases
D)decreases; decreases; increases

Question 34

In the market for loanable funds, r₀ is:

A)the price of goods and services in the present relative to goods and services in the future
B)the price of domestic goods and services relative to foreign goods and services
C)the price of goods and services in the future relative to goods and services in the present
D)the price of foreign goods and services relative to domestic goods and services

Question 35

The theory of purchasing-power parity implies that the demand curve for foreign-currency exchange is:

A)downward-sloping
B)upward-sloping
C)vertical
D)horizontal
E)the theory doesn't imply anything about the shape of the demand curve

Question 36

The real exchange rate is:

A)the nominal price of domestic goods
B)the relative price of domestic and foreign goods
C)the absolute price of foreign goods
D)none of the above

Question 37

In using the open-economy macroeconomic model to analyse an event, the first step is to:

A)determine which of the supply and demand curves the event affects
B)determine which way the curves shift
C)use the supply-and-demand diagrams to examine how the shifts alter the economy's equilibrium
D)it doesn't matter in which order the steps are taken

Question 38

NARRBEGIN: 13-2
Graph 13-2
In Graph 13-2, an increase in the government budget deficit causes the equilibrium in the economy to move from:

A)A to B in panel (a) and from E₁ to E₂ in panel (c)
B)B to A in panel (a) and from E₂ to E₁ in panel (c)
C)A to B in panel (a) and from E₂ to E₁ in panel (c)
D)B to A in panel (a) and from E₁ to E₂ in panel (c)

Question 39

In the market for foreign-currency exchange, the supply curve represents:

A)national saving
B)private saving
C)domestic investment
D)net foreign investment
E)none of the above

Question 40

At the equilibrium real exchange rate, the demand for dollars to buy:

A)foreign assets exactly balances the supply of dollars to be exchanged into foreign currency to buy domestic assets
B)net exports exactly balances the supply of dollars to be exchanged into foreign currency to buy net imports
C)foreign assets exactly balances the supply of dollars to be exchanged into foreign currency to buy net exports
D)net exports exactly balances the supply of dollars to be exchanged into foreign currency to buy foreign assets

Question 41

Trade policies that directly affect exports or imports:

A)also affect net exports
B)also affect net foreign investment
C)also affect real interest rates
D)also affect national saving and domestic investment
E)none of the above

Question 42

Citing a recent example, describe how a loss of overseas confidence due to political/financial instability may cause that country's exchange rate to depreciate.

Question 43

Trade policies _____ trade balance since these police do not alter _____.

A)do not; net exports
B)affect; imports
C)affect; exports
D)affect; net exports

Question 44

An appreciation of the Australian real exchange rate:

A)reduces the quantity of dollars demanded in the market for foreign-currency exchange
B)makes Australian goods become more expensive relative to foreign goods
C)makes Australian goods more attractive to consumers at home and abroad
D)reduces Australian exports and increases Australian imports

Question 45

Explain why the Australian dollar may appreciate owing to a change in interest rates?

Question 46

Explain how net foreign investment is part of the demand for loanable funds and simultaneously part of the supply of dollars in the foreign exchange market.

Question 47

If a country experienced a large and sudden movement of funds out of it, the interest rate would:

A)increase
B)decrease
C)be unaffected
D)fluctuate

Question 48

Suppose that the government imposes a quota on imports.Explain why the result is a fall in imports and an equal fall in exports.(Hint: Think about what happens to net exports, and about what happens to the exchange rate.)

Question 49

Trade policies:

A)directly affect a country's overall trade balance
B)affect specific firms and industries in countries
C)do not affect specific firms and industries in countries
D)both A and C

Question 50

Suppose that foreign investors are worried about the political stability of Acadia.How would that fear affect the real interest rate and the real exchange rate?

Question 51

Explain what happens to the real exchange rate when a tariff is introduced by the government.

Question 52

How would an increase in the supply of loanable funds in the domestic economy affect that country's trade balance?

Question 53

What is the difference between the supply of loanable funds in a closed economy and that in an open economy?

Question 54

In an open economy, a decrease in the perceived riskiness of domestic assets by foreigners, arising, for example, from an increase in political stability, leads to a(n) _______ in the equilibrium domestic real interest rates and to ____ in the quantity of domestic investment.

A)increase; an increase
B)increase; a decrease
C)increase; no change
D)decrease; an increase

Question 55

Which of the following statements is correct when the Australian government runs a budget deficit?

A)The supply of loanable funds increases
B)The interest rate falls
C)The dollar appreciates
D)It causes a trade balance surplus

Question 56

Capital flight from a country:

A)decreases its interest rates and increases the value of its currency in the foreign exchange market
B)decreases its interest rates and decreases the value of its currency in the foreign exchange market
C)increases its interest rates and increases the value of its currency in the foreign exchange market
D)increases its interest rates and decreases the value of its currency in the foreign exchange market

Question 57

Low government saving has NOT contributed to the recent large ________ in Australia.

A)household savings
B)increase in household debt
C)strong investment
D)trade deficits

Question 58

If money is neutral, the nominal exchange rate must _____ when the domestic price level rises.

A)fall
B)rise
C)not change
D)none of the above

Question 59

A removal of trade restrictions:

A)reduces the interference upon gains from trade and therefore increases overall economic wellbeing
B)alters a country's balance of trade and therefore are fully justified
C)can be used to punish other countries and therefore are fully justified
D)protect domestic jobs and therefore are fully justified

Question 60

When capital flows out of Country A to Country B, Country A's net foreign investment will:

A)fall, and Country B's net investment will rise
B)rise, and Country B's net investment will rise
C)rise, and Country B's net investment will fall
D)fall, and Country B's net investment will fall

Question 61

Economists have argued that removing trade restrictions benefits Australian industries that
produce goods for export.Explain why this may be the case.