Three definition of CA given in the class are..
- Trade Balance ( CA = (EX - IM) + NFP). NFP IS NET FACTOR PAYMENTS ( GNP - GDP)
- Domestic Absorption( CA = Q - (C + I + G))
- SAVING AND INVESTMENT (CA = S - I)
. Problem sepdf (page 1 of 2) v Problem 1. Consider a country Vodka, which produces two goods: bottles of olive oil and bottles of wine. As there is a large international market for olive oil and wine, the relative price is pinned down by the global price, which is 2 bottles of olive oil per bottle of wine. Assume that there are open in ternational capital markets, so Vodka can freely borrow from or lend to other countries at an interest rate of 10%. Suppose in 2019, Vodka produced 100 bottles of olive and 100 bottles of wine. In that year, Vodkan households wanted to consume 80 bottles of wine and 40 bottles of olive oil. Furthermore, they wanted to invest the equivalent of 10 bottles of olive oil. Government consumption was zero. Fi nally, assume that Vodka had an existing net debt to the rest of the world equal to 100 bottles of olive oil. (a) What is the GDP of Vodka (Y), expressed in units of olive oil? What is the GNP of Vodka (Q) in units of olive oil? (b) What was Vodka's current account (CA) expressed in units of olive oil? Calculate CA using each of the three denitions given in class and show that they coincide. (c) What will be Vodka's net foreign asset (NFA) position at the end of 2019? During 2019, is Vodka borrowing from or lending to the rest of the world? Now suppose that in 2020, the Vodkan olive oil industry experiences a disastrous olive pandemic, which cuts production of olive oil in half (wine production is unaffected). (d) If consumption and investment are unchanged, calculate Vodka's 2020 GNP and CA balance. What 96:7\". 'iiailBO 63303 a Problem setlpdf (page 2 of 2) v (d) If consumption and investment are unchanged, calculate Vodka's 2020 GNP and CA balance. What zozsggegggm is Vodka's NFA position at the end of 2020'.7 Given that they had to pay back the principal from the previous year, what must Vodka have done on international capital markets? (e) Suppose instead, that in response to the olive oil crisis, the government declares a rescue program for olive oil producers, giving the olive oil industry 10 bottles of wine, funded by new government debt. If domestic consumption and investment are unchanged, what is Vodka's CA balance and NFP position at the end of 2020? (f) Now forget about the government's rescue package (i.e., G = 0) and suppose instead that the olive oil crisis causes a rise in the relative price of olive oil on the international market. If the price rises to 2 bottles of wine per bottle of olive oil and all else is unchanged, what is Vodka's GNP and CA balance in 2020, still in units of olive oil? What is their NFA position at the end of 2020? Explain why the CA surplus is smaller compared to (d) even if their main export is now more expensive. aeoo'aienoaee
