Open Economy II

1. Answer the following sub-questions.

a. Explain why the demand curve for loanable fund is downward-sloping.

b. Explain why the supply curve for domestic currency is vertical in the foreign exchange market.

2. Recently several countries have developed a strong taste for Thai fruits. Answer the following subquestions only in words.

a. What happens to the demand for Thai Baht in the market for foreign-currency exchange?

b. What happens to the value of the Thai Baht relative to other currencies in the FOREXmarket?

c. What happens to the Thai net exports?

3. Suppose the new U.S. President, Joe Biden, decidesto loosen the tension of the trade war between U.S. and China by lowering the tariffs imposed on a wide range of Chinese products since 2018. Explain the impact of this change on the U.S. economy's equilibrium. Draw graphs for loanable fund market, net capital outflow, and FOREX market to support your answer.

4. Capital flight is a large and sudden reduction in the demand for assets located in a country, as evident for the case of Thailand during the financial crisis in 1997 where capital fled into the safe-haven countries.

a. Graphically show the effects of capital flight on the safe-haven countries, say the U.S.

b. What is the impact of capital flight on the trade balance of safe-haven country: the U.S.? (Note: we now define the U.S. as a home country, therefore the real exchange rate (er) is defined as units of Thai goods per units of U.S. goods, and the nominal exchange rate (e) as THB per USD.