Question

Saving and net flows of capital and goods

In a closed economy, saving and investment must be equal, but this is not the case in an open economy. In the following problem, you will explore how saving and investment are connected to the international flow of capital and goods in an economy. Before delving into the relationship between these various components of an economy, you will be asked to recall some relationships between aggregate variables that will be useful in your analysis.

Recall the components that make up GDP. National income (YY) equals total expenditure on the economy's output of goods and services. Thus, where CC = consumption, II = investment, GG = government purchases, XX = exports, MM = imports, and NXNX = net exports

Y = C + I + G - NX or C+I +G + X or C + I +G +X+ M+ NX or C+I +G+NX

Also, national saving is the income of the nation that is left after paying for (investment, government purchases and consumption, consumption, investment and consumption)

Therefore, national saving (S) is defined as:

S = Y - C or Y-G-C or Y-I or Y-I-C

Rearranging the previous equation and solving for Y yields Y= (S+C, or S+G+C, S+I+C, or S+I) Plugging this into the original equation showing the various components of GDP results in the following relationship:

S= C+G+NX or G+NX or I+G+NX or I+NX

This is equivalent to S= (C+G+NCO, or I+ NCO, or I+G+NCO, or G+NCO) since net exports must equal net capital outflow (NCONCO, also known as net foreign investment).

Now suppose that a country is experiencing balanced trade. Determine the relationships between the entries in the following table, and enter these relationships using the following symbols: > (greater than), < (less than), or = (equal to).

Outcomes of Balanced Trade
Exports	< or = or >	Imports
Net Exports		0
C+I+GC+I+G		YY
Investment		Saving
0		Net Capital Outflow

Answer 1

Balance of Trade = Value of exports - value of imports

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Outcomes of balanced trade:

1. Exports = Imports.

In case of balanced trade, there will be no surplus or deficit in the balance of trade rendering the value of BOT = 0. ==> Value of Exports = Value of Imports

2. Net Exports = 0

Net Exports = Value of exports - Value of imports. In balanced trade, exports = imports (from 1.). Therefore, Net exports = 0.

3. C+ I+ G = Y

We know that Y = C + I + G - NX

In case of balanced trade, NX (net exports) are 0. So, Y = C + I + G.

4. Savings = Investment.

This is the condition of economy to be in equilibrium and in balance

5. Net Capital Outflow = 0

An economy's net capital otflow is always equal to net exports as all foreign transactions include exchange of goods and service.

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