ECON 123: International Economics
Pomona College Assignment 8 : The Op en Economy Model
Fall 2024
Due Dec. 4th
Directions. Answer the following questions on paper or tablet device (please no typed work). Include your
name and date at the top right corner of your work. Assignments are to be submitted to Canvas at the
specified deadline in the format of a PDF document.
1. (4 points) Consider a world of perfect international capital mobility and flexible exchange rates, and
our usual small-country macro model. How would a mix of contractionary monetary policy and
expansionary fiscal policy in our country affect the following variables? (For simplicity, assume a
short-run time horizon in which the future expected exchange rate and all price levels and foreign
variables are constant.) Explain.
Variable Effect(+, -, 0, or Uncertain)
Interest rates (r)
The price of foreign exchange (e)
Our net exports (NX)
Gross private investment (I)
Gross domestic product (Y)
2. (4 points) Consider a world of perfect international capital mobility and credibly fixed exchange
rates, and our usual small-country macro model. How would a mix of contractionary monetary policy
and expansionary fiscal policy in our country affect the following variables? (For simplicity, assume a
short-run time horizon in which all price levels and foreign variables are constant.) Explain.
Variable Effect(+, -, 0, or Uncertain)
Interest rates (r)
The price of foreign exchange (e)
Our net exports (NX)
Gross private investment (I)
Gross domestic product (Y)
3. (2 points) When will expansionary monetary policy be ineffective, in the context of our usual
Mundell-Fleming model with perfect capital mobility? Explain. Will it be ineffective even if there is
zero private capital mobility—if the only capital flows consist of purchases or sales of foreign currency
by our central bank to facilitate current account transactions (trade in goods and services)? (Here
you should distinguish between the short run and the long run. Suppose that initially there is a full
equilibrium in which the current account deficit is equal to zero.) Explain.
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