What are the key channels by which fiscal policy affects output in a closed versus open economy

INSTRUCTIONS TO CANDIDATES

ANSWER ALL QUESTIONS

1. (10 points) What are the key channels by which fiscal policy affects output in a closed versus open economy (‐ write down the sequence of variables by which changes in fiscal policy are transmitted to output in the economy)?

Using the models studied in class, discuss what is meant by “crowding out”, and how the crowding out effect works in an open economy. How does this effect differ from the way it works in a closed economy? To what extent does the efficacy of fiscal policy (i.e. in affecting output) depend on the type of exchange rate regime? Note: There are four parts to this question. Make sure to answer all the parts to get the points. Trade Deficit

Questions (2) – (4) are a worth a total of 10 points and pertain to the following statement. Suppose that in the data, the trade deficit appears to be procyclical (‐ take this as a statement of fact). 2. (4 points) Define what is meant by: (i) a country running a trade deficit;

(ii) the trade deficit exhibiting procyclical behavior. 3. (4 points) Using one of the open economy models studies in class, use a diagram to outline a possible explanation for the procyclical behavior of the trade deficit. Please upload your diagram here. Acceptable file types include: jpeg, jpg, png and pdf. 4. (2 points)

Provide a brief explanation to accompany your diagram that you uploaded in question 3 above to detail the mechanism by which we are able to obtain a procyclical trade deficit. Reasons for Trade For the questions that follow

(questions 5 – 11), use this table below to answer the questions. There is a total of 10 points for these questions. France and Poland each have one worker whose monthly linear Production Possibility Frontier indicates the following production possibilities: Poland France Computers (C) 24 6 Grain (G) 4 3

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