Question

Suppose net exports and net capital outflow are in equilibrium in a small open economy. If foreign governments adopt expansionary fiscal policy, in the small open economy the real exchange rate ____________ and net exports ____________. g

Answer 1

the small open economy the real exchange rate DEPRECIATES and net exports INCREASE.

Step-by-step explanation:

If the government adopts an expansionary monetary policy, then the country's currency will depreciate since a higher interest rate will result in a lower value according to the PPP thoery. When a currency depreciates, the exports become cheaper for foreign countries, so they increase. While the imports become more expensive and they decrease.