so now we're going to go back to to the first part of the course in the sense that um um that we're going to go back to sort of the the short term okay so so we're going to essentially do the eslm mode again but now in the context of an open economy but before I get into that first model of this part of the course I want to um finish the previous lecture in which I was introducing the concept of openness and the key relative prices H in open economy and we stopped after discussing this and says well one of the things that that open an economy means is that now you can buy Goods both at home or abroad so you need to be able to compare these two different kind of goods and controlling for quality and all these differences and all that at the end of the day you want some sense of relative prices which good is more expensive than the other one and we said for that we use what is called the real exchange rate okay and we Define the real exchange rate as well essentially a it's the relative prices of of goods at home versus abroad H but we had to put them in a common currency that's the reason we we couldn't just directly compare the prices at home versus the prices abroad we had to convert the prices at home to the unit of account of the other country and then we could compare these two things and that's what we call the real exchange rate when that thing goes up we call that's a real appreciation of of of the local currency of the local economy and and that means that the goods domestic Goods become more expensive relative to International Goods when when the that Epsilon goes down then we call we say the real exchange has depreciated and that means that their domestic Goods become cheaper relative to foreign Goods okay so as a key Concept in the in what it means when you open an economy you need to have a this price is very important to decide whether you're going to again whether you and foreigners are going to buy Goods abroad or domestically the second concept of openness that we're going to explore in this course is openness in capital account in financial Market Market an openness in financial Market means something very similar which is now you when you have a dollar to invest financially invest not physical investment not real investment well you can decide whether to invest in domestic assets or foreign assets we're going to in this and later on we're going to talk about Equity but for now bonds so suppose you have a domestic Bond and a foreign bond well you can decide whether to invest in the domestic Bond or in the foreign bond okay now to make that compar Aron is not enough to have the current exchange rate because it doesn't mean much if I tell you that the British bond is more expensive than a domestic a dollar Bond H what you really need in order to decide where to invest is some sense what is the expected relative return of these two things do I expect to make more money in the dollar Bond or in the in the uh pound Bond and and I that's a comparison I need to be able to make okay there are also risk considerations and so on that we're going to not going to discuss in this in this course but the but the very basic comparison is not the value of things when you're talking about financial but what is a return you expect to get in one or the other okay so this is what you need to do suppose you have a dollar of invest dollar to invest and you have two options one is you buy a dollar Bond the dollar Bond gives you an interest rate of it so you know that say 5% nowadays more or less that if you have a dollar today and you invest it in a in a dollar Bond you're going to get Next Period you're going to get a h how much is it $100 supposed you have $1 then you're going to get a a five cents on that dollar at the end of the year okay and so that's what you get if you invest in the dollar Bond now you're given now an option because because we are open to financial markets to also invest in a British bond in a pound bond that is as safe as the US Bond say and uh so we're going to call that the UK Bond and I know for example that the UK bond is offering a 10% interest rate okay so suppose that I that I think IST star is 10% then I ask you the question well does that mean that obviously since you want to compare returns that you should be investing in the in the pound bond in the UK Bond rather than the US Bond so suppose this is 5% and that's 10% and now tell you where do you want to invest your money do you want to invest it in the US Bond or in the UK Bond what is your answer sounds obvious no they pay you 10% the other one pays you 5% exactly why do I need to know that exact so this this is not enough information for me because it may happen that what I get in terms of return I lose on the currency currency exposure for example so so let's see how that can happen so how would I do this I have $1 of wealth that I want to invest and suppose I want to go the UK Bond route so the first thing I have to do is I have to convert the dollar into pounds today to buy my dollar which my UK bond which will be in pounds so I first thing I have to use you know suppose I get 8 pounds per dollar then then I I can invest .8 pounds in in in h in UK bonds with my dollar H that will give me8 * 1 plus 1 point one 1 plus is star tomorrow but what are the units of this what do I get there next year what do I get next year I invested 8 ER pounds and I got8 time 1.1 say pounds but I just told you so what I get next year is pounds I cannot compare a return in dollars which this was $ 1.05 with a return on pounds I need to be able to convert those pounds pounds in the future to in the future and the best I can do here we're not going to open forward markets or anything is well I can that means I have to divide by the exchange rate next year to convert from pounds to dollars I don't know the exchange rate of next year so the best I can do is use expected exchange rate okay so so I divide this by the expected exchange rate next year and then I get that's my return in dollars of having gone the UK B route okay and so what I need to compare in order to decide where do I want to put my money is that return here versus that one there that's in the same units of account is I invest the same today $1 and I get dollars tomorrow so now I can compare and as you correctly pointed out this this this uh this thing here therefore requires that you you sort of think about what the exchange rate is likely to be tomorrow so for example in my example here when I said suppose I is 5% and I star interest rate in UK bone is 10% is it obvious that they should invest in the in the UK Bond and the answer is no not so fast because I know I'm going to make 5% more in terms of the return of the bond but then when I convert it back to Dollar I may lose all that gain because the the the the pound has depreciated visis the dollar in particular if the pound I expect the pound to depreciate Rel to or if I expect the dollar to appreciate relative to the pound by 5% then I'm indifferent yeah in one case I get because if I go the the US Bond route I get five 5% next year from this year to next if I go the UK bone route I get 10% in return in the bond minus 5% in the capital loss due to the the the appreciation of the dollar so on net I get 5% as well that's what appears here that's what I've done here here so what I did here is say you know if the markets are very integrated and they function fairly well those two returns should be more or less similar in equilibrium because prices are going to adjust exchanges are going to adjust and so on so these two ways of investing are more or less the same I'm going to take the stream assumption that they are exactly the same here so that this holds that the equilibrium we have to find that equilibrium these two things are going to be equal that's called and it's a very important Concept in international finance the uncover inp parity condition don't ask me why it's uncover but it's it's the inp parity condition and and again that one in particular is called the uncover interp condition if you do a little bit of and this just tells you that in equilibrium you have to be more be indifferent between investing to in one bone or the other okay if you do a little algebra here of the kind of we have done in the past like you know 1 plus I is I is approximately equal to one is approximately equal to 1 over 1 minus I or or this one 1 plus I star is approximately equal to one over 1 minus I star and so on that's that kind of approximation tailor expansion when when these terms are small then you can write this as this expression here okay and this says exactly what I just said in words this says look if the interest rate in the US bond is lower than the than the UK bonds interest rate that's okay in the sense that we can be different between these two things as long as you're expecting a depre an appreciation of the dollar that is equivalent to the difference in this two interest rate okay so that's what's called the interest parity condition the two in equilibrium the two are going to be the same once you adjust for the expected appreciation or depreciation of the currency okay so in my example before we had this interest rate with 5% that was 10% then the only way that will that's going to be an equilibrium is that if we also expect the dollar to appreciate by 5% okay so dollar appreciation remember is this guy going up so if this is 5% then it's fine to have 5% here 10% there because they both gave me the same return in expectation at least okay if I do it in dollars I say I'm going to get 5% either way invest in direct in dollars or through the UK pound because in the in the UK bone in the UK bone I'm going to get 10% and then lose 5% because of the of the currency or I can do the comparison in pounds and and then I say well I'm going to get 10% in pounds directly and if I go the US way I'm going to get 5% but I'm going to get also 5% in the currency appreciation and that gives me 10% okay key concept anyways so these are the two senses of opening that we can have opening in in Goods Market opening in financial markets and the the the key relative prices and and things are going to equilibrate both markets one is the real exchange rate in the Goods Market in this one is the uncovering transparity condition I want to shut down this part of openness H for a lecture or so and I'm going to focus now on the on the Goods Market open opening only okay and then I'm going to come back to this but I just wanted to show you the two senses of opening okay so now let's forget a little bit about financial opening and and uh and let's just focus on opening the goods markets to International Trade okay so that means we're going to have now imports and exports floating around so this is we go back again to our aslm mod H to actually want to go back to our Goods Market only mod the very first model we saw in this course but we're going to bring back a couple of terms that we shut down there okay now something that will be that we didn't need to worry about but we're going to have to worry about here a lot is that there is a distinction between the demand for domestic goods and the domestic demand for goods okay I know this going to be tricky but but okay there's a difference between demand for domestic Goods versus the domestic demand for goods this is what residents us say us residents household firms government demand in terms of goods this is how those same agents plus the rest of the world demand of domestically produced Goods that's the distinction when the economy was closed they were the same but now they're not okay so the domestic demand Remains the Same as before okay domestic demand is whatever the households demand consumption plus firm's investment plus government expenditure that's the same we had in close economy this hasn't changed the domestic demand is the same is a function of the same behavioral functions that we had there and the only behavioral function that was in the only two that we had was the consumption function and investment function remember so That Remains the Same nothing has changed what does change is that this is no longer what determines the demand for domestically produced goods and remember that's very key in the short run because this is so Canan model with very sticky prices demand determines output activity so if we're going to determine domestic production from demand we better be very careful about what is the demand for domestically produced Goods this is demand for both domestically produced good and foreign produced Goods some of those demand will be satisfied by Imports that's not demand for domestic production and therefore will not be determined equilibrium output domestically okay so this is going to be the New Concept which is demand for domestic goods and demand for domestic Goods is the same as demand as domestic demand for goods that the thing we had in close economy minus that part of demand that is Satisfied by Imports so minus Imports and divided by The Exchange because inputs may be priced in euros say and I have to convert them into dollars that's the reason very exchange don't worry about this for now okay so I had to subtract from that Imports because that's Demand by Resident us resident that doesn't go to demand to demand for domestically produced Goods it's demand for BMWs whatever so that's not going to affect the demand for Ford good cars and therefore it will not affect the production of four cars because it's not demand for that but against that we also have the demand a component of demand for domestically produced good that we didn't have before which is what foreigners demand from the US okay part of the demand that probably not for a lot at least part of the the demand that us Goods perceived us production perceived is not due to resident is due to foreigners that are importing us Goods okay Apple s sells a lot of phones to the rest of the world okay that's determined by Foreign demand for domestically produced good that's what we want to call X exports okay so this is our new key concept here Z okay which is the same as what we used to have but now we need to understand two more terms the export and it ask going to be a function and import which also will be a function so let me introduce that so exports we're going to assume simplify things but it's sensible behavioral assumption we're going to assume that exports are increasing in foreign output that's what y star means and it makes sense is the rest of the world I mean Emerging Market the commodity producing economies today are very excited about the recover in China no China is reopening so so it's a big boom domestically that's great news for the Emerging Markets commodity producers because that will increase the demand from China for goods produced around the world in particular in commodity producing economies so so that's what this is capturing if if an important trading partners output goes up income goes up then they're they're going to consume everything they're domestic Goods but they're also going to consume the goods they import which are our exports okay so that's the reason this is increasing ER exports are decreasing on the real exchange rate that's sensible assumption why why do you think it's a sensible assumption so why do you think that exports US exports are decreasing on the real exchange rate Epsilon for for foreign customers to BU exactly because then us Goods become more expensive relative to foreign Goods that's what a real exchange appreciation is and therefore there is L less demand for domestically for for us Goods okay that's that's the reason we have that time what about import well Imports are sort of the the Dual of that meaning of the export function is is is is H is actually our Imports is what the other countries sees as their export okay so our inputs will tend to go up when domestic output goes up because if domestic income goes up domestic consumer say will both consume more Goods at home but they will also consume more Goods abroad no they going to scale up their consumption and they're going to consume consume from from both places so Imports H will is an increaseing function of domestic output what about the the real exchange rate here well inputs are an increasing function of the um real exchange rate why is that it's the same argument of export but seem from the other side remember when why do we use this Epsilon 4 to decide where do we want to buy our Goods if Epsilon goes up means our Goods become more expensive if our Goods become more expensive for any given level of domestic consumption where do you think you'll buy your goods you'll buy more abroad are cheaper okay so then that's an increasing function of NS good any question about that because these are the only sort of new behavioral equations we're going to have for for this model and and what I'm going to do next is I'm going to start from the same model we had in in in I don't know lecture two or three h and uh I'm going to I'm going to add this these terms and see how things change okay okay good so let's do that so remember H I think the first curve that would the the first the very first diagram we had in this class was this one this was just a demand for domestic uh domestic demand sorry which was just C plus I plus G it's an increasing function here because consumption and investment are increasing function of output okay and then in close economy what we did is we had a 45 degree line here and we said in equilibrium output equal to demand and therefore the intersection of this curve with the 45 45 degree line gave us our equilibrium output that's what we have we need to change things a little bit we're going to put the 45 degree line in the next slide but we first need to this is not the relevant demand for domestically produced Goods so we need to go from here to the demand that is relevant for domestic producers okay so the first thing we need to do is we need to subtract Imports because part of the demand will go for foreign Goods okay and so that's what I'm doing here to this domestic demand I'm subract subtracting the part that H that is going to foreign Goods not domestic Goods because this is not demand for domestically produced Goods so obviously this is a shift down but there is also rotation why is that you see obviously we're subtracting imports from domestic demand so that moves us down here but it's also it's not a parallel shift this curve becomes flatter why is that in other words the decline is larger for the different the Gap is larger for high levels of income than for low levels of income or output why is that depend on outut exactly is because there's a positive marginal propensity to import and so you'll import more if output is higher okay and that's the reason we have this C notice that this also means well let me get to the end of that and and of these diagrams and then I'll get back to this so one step more still this is not what I need to integrate with my 45 degree line because this is not the demand that domestic producer will face we still have to add the demand that comes from foreigners and that's exports okay so to this AA function I have to add exports and exports is a parallel shift because it didn't depend on domestic output it depend on foreign output so foreign output is going to be a parameter in this curve but it's not doesn't change the slope of that curve so here we went from the DD curve to the new curve which is the reant for equilibrium domestic equilibrium output which is this ZZ curve okay now notice two things or one thing about this ZZ curve relative to DD what is the most obvious difference between these two curves no this is the one we use in lecture two or three I don't know and then when we did slm and all that and this is the one we're going to use now the ZZ it's flatter yeah why is that flatter is slow a slope will mean lower multiplier why is the multiplier lower then you know open economy part of the Dem falls on for exactly because part of the remember the the way we got to the multiplier is that income went up consumption went up the that increased income again and so on so forth but if part of that increasing consumption is going to foreign Goods that's not reflected in demand for domestically produced goods and therefore there's less of a multiplier okay and that's one characteristic of the open economy is that the multipliers are smaller the distinction is that you don't see it here but we have more parameters in particular a very important parameter here is y star y star didn't we didn't worry about what was income in Germany when we look at the islm the close economy model now we worry about what the income of our main trading partners is so you there's an extra parameter there good now we still haven't found equilibrium output but there is a point that is already interes in here which is this one what do I know of this point well in this point domestic demand for goods is the same as demand for domestically produced goods for domestic goods and that also means that the trade balance is zero meaning that at that point exports is exactly equal to Imports so net exports are equal to zero okay so that's what I'm plotting here actually this is the net export function the net export function is simply that minus that divided by the exchange rate okay so that's what I'm plotting here is a decreasing function of output why is that why is this decreasing in in domestic output remember this is export minus UT divided by the exchanger but we're not moving the exchanger for now why is this decreasing that means here exports exceed Imports here Imports exceed exports so here you have a trade deficit here you have a trade surplus why why is that why is that the shape why is it downward SL import grow outp grows export exactly export is not a function of domestic output it's a function of foreign output while while inputs is an increasing function of domestic output a net export is exports minus Imports okay so that's what this is decreasing and this point here happens to be when the two things are exactly balance that's trade balance happens to be the point where DD is equal to ZZ that's just there's no reason why equilibrium output should be at that level I'm saying that's a point where that happens okay now we're going to find equilibrium output to find to find equilibrium output I'm going to erase all this extra curves here and I'm just going to keep the ZZ here because that's the demand for domestically produced goods and and I'm doing short run here so I know that domestic production is going that is the Y is going to be equal to demand for domestic Goods it's it's a demand determined model that's what the short run is all about so erase all this all these curves and I'm going to just keep this ZZ curve there there you are okay so now I have my 45 degree line because in the short run equilibrium output is equal to aggregate demand aggregate demand for what for domestically produced Goods that's the reason I'm using ZZ not DD okay but there you are then you do exactly the same as we did before boom that's our equilibrium outut and here you can do all sort of experiments and you're going to get the same sort of things things that we there the multiplier is a smaller multiplier but you're going to still get a multiplier and all these kind of things okay now I this is just I I I in this example it happens that at this equilibrium output this country has a trade deficit I just made up that okay so the so this is the equilibrium condition is output equal to Z output equal to then domestic demand plus export minus input okay and then the net export is just I'm plotting this term here that's what we have here but equilibrium is just y equal to Z it's not this equal to zero you can think about equilibrium but this is this is what it is given that that's equilibrium how okay is this clear I mean this is the start diagram of of this part of the course so you need to understand this diagram go over it play with it think what is a parameter in there and so I'm going to do a little bit of that now but make sure that you understand this okay so let a few things here so let's do things that we did in close economy so suppose that you have a f fiscal expansion so so what did we do when we had a fysal expansion in lecture two or three well that moves the ZZ curve up output will go up and then there will be a multiplier so output will go up by more than the initial increasing government expenditure no that's what we had before it will go up by more but not as much as it did in the close economy so the the increas in output will will be more than the increase in government expenditure but it will be not as much as it would have been had we had a close economy why is that why is the last part true why not as much as it would have been in the close economy well you can read it here is because part of that extra energy the man for consumption will go to foreign Goods it will not come back to demand more domestic production okay and that's reflected in that the trade deficit in this particular example we start with a situation where the the we had a the trade was balanced we had no net export was equal to zero and we end up with a trade deficit that trade deficit is exactly the same reason why we got a smaller multiply is because part of the extra demand that comes from the extra income that created by the additional expenditure H by the aggregate demand effect of additional expenditure went to the demand for foreign Goods okay good so do the same things we did in in close Eon just practice here increase taxes do things like that increase czo and see what happens both with equilibrium output qualitatively will be exactly the same as with you had in close economy except that the effects are going to be smaller but you're going to get something new which is what happens to the trade deficit as a result okay so this is a shock we couldn't do in the close economy case which is what happens if foreign demand go comes up that's what I'm saying everyone is jubilant in Emerging Market worlds because China's output is going up so what are all these economists thinking say well China's output is going up that means they're going to import a lot more from us okay that is they think our exports are going to go up because Chinese consumption is going up well exports going up means up that our ZZ curve moves up okay so then what do you get well you get er now an increas in in exports uh for any given level of income means that eventually you you're going to get higher output immediately but higher output also has a multiplier although smaller but at the end of the day you're going to get higher equilibrium out so it's great news that's the reason they're so happy it's great news that China is expanding because it's also lead to an expansion in h the rest of the world okay so that's what you get so that in that sense you know that if if if China decides to do an expansionary fiscal policy it also expands us output or even more important for Chilean output okay it does that so it's the same Chile could have done it by having their own fiscal policy that would also expanded output but it's wonderful that China decides to do it because that expands output as well with one advantage two advantages what is but there's one that you can see here which is what why is it that they prefer that China does the effort rather than me what looks better here assume they are comparable size and so on in terms of the impact in the in the top diagram supposed to generate the same increasing output as a result of one policy which is my domestic expansion in G which is what we did the previous slide or because China's goes into a boom and starts importing a lot that's this we can we can export a lot to them so suppose we get the same increase in output what looks a little better not a little better it can look a lot better there are two things but one is in this diagram which is remember if I did go in expenditure the net export function wouldn't have moved and I ended up with higher output I would have ended up with a bigger trade deficit okay in this case it's export driven so it's the opposite because the now the net export function is Shifting up you know if I move y star up I'm moving export up that means the net export function is moving up shifting up and then I'm losing some of that because in increasing domestic output er um goes into input but at the end of the day in this case I end up with a trade surplus rather than a trade deficit okay so lots of things that's the reason when you open the world there's a lot of free writing here you want the other one to do the policies for you because then then you're a lot better you can get the same increase in output but here you end up with a trade surplus rather than a trade deficit and there's a second thing that I'm not showing you here there's a big difference between you doing it you domestically by increasing government expenditure versus the other one doing it for you and they're pulling you through export what else will look better in the US in this case relative to the previous slide that's but that's too sophisticated we're still keeping the interest rate constant H that's even more sophisticated this is short run completely sticky prices forget all that fiscal deficits in the other one I need to increase G so they had a fiscal deficit here I don't need to do that and in fact in reality taxes are typically indexed to Output domestic output so that that probably will improve the deficit in the US okay so anyways the last point I want to H talk about is another variable that we didn't have in in the close economy which is the role for the exchange rate what the exchange rate can do and so for this we need to look you know the only term that depends on the exchange rate is this net export term no the exports minus inputs so what you know from net exports it's very clear what happens to net exports when we increase y star we did an experiment before that's what increase exports so net exports will increase if you increase y star we also know that net exports will decrease if domestic output goes up because inputs increase but from this expression is a little ambiguous what happens to net exports when there's a when the real exchange it appreciates and it's a little it's a little ambigous for the following reason the volume expression is clearly increasing in the real exchange if us Goods become more expensive you want to import more that's what we discussed before but the value may not be such because if you're importing those goods in euros and now the euro is cheaper for you then then you may you're are paying less for each unit you import okay now we're going to assume from now on that this second effect is not as strong as the volume effect and that's a very realistic assumption except for the very very very short run okay so that's going to be our assumption our assumption will be that net exports decrease when the currency appreciates if your goods become more expensive then on net you're going to have less net exports okay as an assumption it simply says that this guy in the numerator responds more strongly than the denominator to a depreciation to an appreciation of the exchange so the quantity effect is much more important than the price effect so again I'm not going to have trick questions about this or anything I'm going to assume that from now that's your assumption okay if I make a mistake and and I try to trick you in in the quiz for that you can charge me the points okay I don't intend to do that it's just IDE spot when one of the da sort of wrote something there and because this is the a very realistic assumption good so now let's see what happens then when the exchange rate moves and let me use it ER suppose that that you are in a situation where you want to reduce the trade deficit what would you do to so so the experiment I have here has two components but but let's talk about the first one suppose that that you your country has a big trade deficit H and you want to reduce that and the only tool you have is the exchange rate what would you do suppose you have trade deficit you don't like that and you can move the exchange rate around what would you do yes you depreciate you make the domestic Goods cheaper relative to the rest of the world so you depreciate H your currency which is the prices are completely sticky fixed than nominal depreciation means also real depreciation and that will increase increase net exports so what that will do if you depreciate so X The Exchange is also a parameter in this net export function and given my assumption when you depreciate the exchange rate then then moves the net export function up okay now the problem is that if you do that that's also going to be expansionary because now you know you had certain equilibrium level of output and now there's going to be expend switching all around the world towards your goods so you're going to end up producing more okay and so suppose that you didn't want that extra production you just wanted to fix your trade balance then you have to said that and that's what I've done here typ that's very typical is supposed you're a situation where you have very large trade deficit but you are okay with the equilibrium level of output you have and a typical package is you depreciate your currency but you also reduce govern expenditure okay because depreciation of the currency is expansionary it's expansionary improves the trade deficit but it's also expansionary because you relocate expenditure both of residents and foreigners towards your good that increases demand for your good increases out but um um I mean if I don't like that I have many ways of of setting that one of them is by reducing government expenditure okay so that's what I've done here again this is a great package you see this is doing remember I told you here that people tend to prefer remember I said you know this is this is one way of of increasing output if you want to increase output H um another way is is to do it by exports Rising if I don't want to increase out but this is better because this increases the trade balance well suppose I do I which is where index is I do the converse suppose I don't want to change output I want to increase the net export well these two charts this and the previous one tell me exactly how to do it I use this for the expansion of output and to improve the net exports and I use the other one to offset the effect on output but with the opposite sign so I use this but with a decline in G that's exactly what I did here so that's very tempting for a country to okay to depreciate the currency and at the same time H if you think that you need to pull off the economy then you can use some other instrument domestic instrument to to do that for a long time China was accused of doing just this it was called the mercantilist policies of China and and especially sort of in late 90s and 2000s and so on China had massive amount of exports and and the US had huge trade deficit was called was called the the the time of the global imbalances big deficit in the US big Surplus in in in in the in China and and the rest of the world kept accusing China of really M maintaining their currency at artificially low levels okay with the purpose of doing that uh anyways I'm not going to take sight on that I think that that that the reason why the currency was the Chinese REM was so depreciated was different from that but that's a different story but the result was this it was that they had very large trade surpluses and uh the result was this they had very large trade surpluses and they grew a lot so because they had this but it was very export driven it was the rest of the world pulling in fact the domestic economy in China they were saying a lot so domestic consumption was very low but they had massive amount of exports and that's what was P pulling their output up so open economy you get new tools okay so that's all that I want to say for today um so summary uh very important demand for domestic Goods is no longer equal to domestic uh demand for goods because part of the latter will go to a for foreign goods and and also part of the former will come from foreign demand okay so that's that's a the that's what is new of this part you have an extra component and then the other thing that is new of this part of the course is that well these extra components the exports and the Imports are functions of things that w we didn't have before for an output the exchange rate in particular okay um so equilibrium output again is the determined by a output domestic output equal to that not to that the difference between the two is reflecting the trade balance ER so the trade another way of thinking about the trade balance is simply the difference between the demand for a um domestic goods and the domestic demand for goods so the trade balance is nothing else than that DD curve minus the ZZ curve that's a trade balance okay sorry the zzer minus the the deer that's that's net export okay sorry let me write that down because so remember that we started from the demand which was C + I + G that's the domestic demand for goods we went to Z e is equal to demand plus net export okay so what I'm saying is that net export is just equal to Z minus D okay so that's the reason you can very early on when I show you this thing here the if distance between ZZ and d d is this n export here okay that's a reason when the two of them are the same that also means that n export is equal to zero very important also message from this part of of of the course is that a depreciation improves the trade balance and increases the amount for domestic Goods again that's what it's called expenditure switching mechanism the expenditures both of domestic of residents and foreign switches towards domestic good ER and that's also very important for a given exchange rate changes in aggregate demand in one large country H induced by policy or the private sector in this case China reopening ER affects other countries through why star through exports okay so I'm going to stop here and in the next lecture what we'll do is we'll integrate this with the H Financial opening and and that will get us to what I think is one of the most important malls in this course which is called the Mandel flaming Mall