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Why a cut in government spending has a larger effect under a fixed exchange rate system and perfect capital mobility than in a closed economy?
fixed and floating exchange rates
What is the connection between an increase in government purchases and the trade deficit?
This is a question of the crowding effect of government spending. When the government increases purchases, it will increase the GDP by a multiplier effect, i.e., the change in GDP is the change in G times 1/(1-MPC). In an IS-LM model, the increased GDP will raise the interest rate and discourage the private investment. Such a "crowding out" effect will reduce the GDP increase. On the other hand, the increased interest rate will raise the international demand for domestic currency and, in turn, increase the exchange rate. A higher exchange rate makes the domestic products more expensive and foreign goods cheaper. Therefore, the export will be lowered while the import will be increased. As a result, the trade deficit will be enlarged.
What is the effect of a currency revaluation?
Currency revaluation is the equivalent of currency appreciation, except that it occurs under a fixed exchange rate regime and is mandated by the government.
What best describes the economic effect that results from the government having a budget-surplus?
Overall demand decreases, reducing the incentive for producers to increase production
What best describes the economic effect that results from a government budget surplus?
Overall demand decreases reducing the incentive for producers to increase production
