Using the ZZ/Y and NX graphs, illustrate graphically and explain what effect an increase in foreign output (Y*) will have on output, exports, imports, and net exports. Clearly label all curves and clearly label the initial and final equilibria
What will be an ideal response?
An increase in foreign income, Y*, will cause an increase in exports (the NX curve shifts up) and an increase in demand. As demand rises, Y will increase causing a rise in C and S. As Y increases, imports will increase as well. As shown in the text, the increase in imports will be less than the rise in exports. So, NX will be higher.
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