David K.H. Begg, Gianluigi Vernasca-Economics-McGraw Hill Higher Education (2011)

Learning Outcomes
By the end of this chapter, you should understand:
e the foreign exchange market
0 balance of payments accounts
0 determinants of current account flows
0 perfect capital mobility
0 speculative behaviour and capital flows
0 internal and external balance
0 the long-run equilibrium real exchange rate
Exports and imports are each about 10 per cent of the size of GDP in Japan, 15 per
cent in the US, around 30 per cent in the UK and France, 40 per cent in Germany,
but nearly 80 per cent in small European economies such as Belgium. Even in the
US and Japan, the exchange rate, international competitiveness and the trade
deficit are major issues. International linkages matter even more in more open
economies such as the UK, Germany and Belgium.
In this chapter we show how international transactions affect the domestic economy.
An open economy hos
important trade and financial
links with other countries.
The foreign exchange market
Different countries use different national currencies. In the UK, goods, services
and assets are bought and sold for pounds sterling; in France, they are bought and
sold for euros.
Measuring exchange rates
Suppose $2 converts to £1. We can say either that the exchange rate is $2/£ or that
it is £0.50/$. Both statements contain the same information.
The foreign exchange (forex)
market exchanges one
notional currency for another.
The price at which the two
currencies exchange is the
exchange rate.
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