Small Open Economy ModelConsider the Small Open Economy model studied in class. Answer the following questions by assuming that the purchasing power parity (PPP) holds. (a)Suppose that future total factor productivity (TFP) increases (e.g., becauseit is expected that a new invention will become available in the future). Which are theeffects of this shock on the equilibrium values of the real interest rate and output?Use the equilibrium diagram for the current goods market to answer this question.(b)How will the composition of output be affected by the future TFP shockdescribed in Part (a)? Show that the future TFP shock increases the current accountdeficit.(c)Suppose that the government of this small open economy wishes toreduce the current account deficit. To achieve that goal, the government plans tochange the level of current public spending (i.e., G, using the notation we applied inclass). Should the government increase or decrease current public spending? Justifyyour answer using a new equilibrium diagram for the current goods market.(d)the government changes public spending in order to reduce the current accountdeficit (as analysed in Part (c)). What would be the effects of this policy on theAssume that the country has a flexible exchange rate regime, and thatnominal exchange rate and on the domestic price level? Justify your answer usingthe equilibrium diagram for the current money market.

A small open economy, shortened to SOE, is an economy that takes part in global exchange, however is…

(a) it is expected that a new invention will become available in the future). Which are the effects of this shock on the equilibrium values of the real interest rate and output? Use the equilibrium diagram for the current goods market to answer this question. Suppose that future total factor productivity (TFP) increases (e.g., because (b) described in Part (a)? Show that the future TFP shock increases the current account How will the composition of output be affected by the future TFP shock deficit. (c) reduce the current account deficit. To achieve that goal, the government plans to change the level of current public spending (i.e., G, using the notation we applied in class). Should the government increase or decrease current public spending? Justify your answer using a new equilibrium diagram for the current goods market. Suppose that the government of this small open economy wishes to

(a) it is expected that a new invention will become available in the future). Which are the effects of this shock on the equilibrium values of the real interest rate and output? Use the equilibrium diagram for the current goods market to answer this question. Suppose that future total factor productivity (TFP) increases (e.g., because (b) described in Part (a)? Show that the future TFP shock increases the current account How will the composition of output be affected by the future TFP shock deficit. (c) reduce the current account deficit. To achieve that goal, the government plans to change the level of current public spending (i.e., G, using the notation we applied in class). Should the government increase or decrease current public spending? Justify your answer using a new equilibrium diagram for the current goods market. Suppose that the government of this small open economy wishes to

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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