Page 668 - The Principle of Economics

686
PART ELEVEN
THE MACROECONOMICS OF OPEN ECONOMIES
relationship between the interest rate and net foreign investment. This net-foreign- investment curve is the link between the market for loanable funds and the mar- ket for foreign-currency exchange.
SIMULTANEOUS EQUILIBRIUM IN TWO MARKETS
We can now put all the pieces of our model together in Figure 30-4. This figure shows how the market for loanable funds and the market for foreign-currency
(a) The Market for Loanable Funds
Real Real Interest Interest Rate Rate
r1 r1
(b) Net Foreign Investment
Supply
Demand
Net foreign investment, NFI
Quantity of Loanable Funds
Net Foreign Investment
Supply
Demand
Real Exchange Rate
E1
(c) The Market for Foreign-Currency Exchange
Quantity of Dollars
THE REAL EQUILIBRIUM IN AN OPEN ECONOMY. In panel (a), the supply and demand for loanable funds determine the real interest rate. In panel (b), the interest rate determines net foreign investment, which provides the supply of dollars in the market for foreign- currency exchange. In panel (c), the supply and demand for dollars in the market for foreign-currency exchange determine the real exchange rate.
Figure 30-4