Imports and Exports

as a percentage of output: 2000

Percentage40
of GDP
35

30

25

20

15

10

0
Canada France Germany Italy Japan U.K. U.S.
Imports Exports

slide 1
 Three experiments
1. Fiscal policy at home

2. Fiscal policy abroad

3. An increase in investment demand

slide 2
 1. Fiscal policy at home
r S 2 S1
An increase in G
or decrease in T NX2
reduces saving. r*
1

NX1
Results:
DI = 0
DNX = DS < 0 I (r )

I1 S, I

slide 3
NX and the Government Budget Deficit
Budget deficit
(right scale)

Net exports
(left scale)

slide 4
 2. Fiscal policy abroad
r S1
Expansionary
NX2
fiscal policy
abroad raises r2*
NX1
the world
interest rate. r1
*

Results:
DI < 0 I (r )
DNX = -DI > 0
S, I
I (r )
2
*
I (r1* )

slide 5
3. An increase in investment demand
r
S

r*
EXERCISE:
Use the model to NX1
determine the impact
of an increase in
investment demand I (r )1
on NX, S, I, and net
capital outflow. I1 S, I

slide 6
3. An increase in investment demand
r
S
ANSWERS: NX2
D I > 0, r*
D S = 0,
net capital NX1
outflows and I (r )2
net exports
fall by the I (r )1
amount D I
I1 I2 S, I

slide 7
 U.S. Net Exports and the
Real Exchange Rate, 1975-2002
2 140
Percent of GDP

1998:2 = 100
1 120

0 100

-1 80

-2 60

-3 40

-4 20

-5 0
1975 1980 1985 1990 1995 2000
Net exports (left scale)
Real exchange rate (right scale)

slide 8
 Four experiments
1. Fiscal policy at home

2. Fiscal policy abroad

3. An increase in investment demand

4. Trade policy to restrict imports

slide 9
 1. Fiscal policy at home
A fiscal expansion
reduces national S 2 - I (r *)
saving, net capital ε S 1 - I (r *)
outflows, and the
supply of dollars in ε2
the foreign
exchange market…
ε1

…causing the NX(ε )

real exchange
rate to rise and NX
NX 2 NX 1
NX to fall.

slide 10
 2. Fiscal policy abroad

An increase in r* S 1 - I (r1 *)
reduces investment, ε S 1 - I (r2 *)
increasing net
capital outflows and ε
1
the supply of dollars
in the foreign
exchange market… ε 2

…causing the NX(ε )

real exchange NX
rate to fall and NX 1 NX 2
NX to rise.
slide 11
 3. An increase in investment demand
An increase in S1 - I 2
investment ε S1 - I 1
reduces net
capital outflows
ε2
and the supply
of dollars in the
foreign exchange ε1
market…
NX(ε )
…causing the
NX
real exchange NX 2 NX 1
rate to rise and
NX to fall.
slide 12
 4. Trade policy to restrict imports

At any given value of

ε, an import quota ε S -I
IM NX
demand for ε2
dollars shifts
right ε1
NX (ε )2
Trade policy doesn’t
NX (ε )1
affect S or I , so
capital flows and the NX
NX1
supply of dollars
remains fixed.
slide 13
 4. Trade policy to restrict imports

Results:
ε S -I
D ε > 0
(demand
increase) ε2
D NX = 0
(supply fixed) ε1
D IM < 0 NX (ε )2
(policy)
NX (ε )1
D EX < 0
(rise in ε ) NX
NX1

slide 14
 Inflation and nominal exchange rates
Percentage10
change
9
in nominal
exchange 8 South Africa
rate 7
6 Depreciation
5 Italy relative to
U.S. dollar
4 New Zealand
Australia Spain
3 Sweden
Ireland
2 Canada
1 France UK
Belgium
0
-1 Appreciation
Germany Netherlands
-2 relative to
Switzerland U.S. dollar
-3 Japan
-4
-3 -2 -1 0 1 2 3 4 5 6 7 8
Inflation differential

slide 15
 CASE STUDY
The Reagan Deficits revisited
actual closed small open
1970s 1980s
change economy economy
G–T 2.2 3.9   
S 19.6 17.4   
r 1.1 6.3   no change
I 19.9 19.4   no change
NX -0.3 -2.0  no change 
ε 115.1 129.4  no change 
Data: decade averages; all except r and ε are expressed
as a percent of GDP; ε is a trade-weighted index.

slide 16