Appunti di International economics

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APPUNTI INTERNATIONAL ECONOMICS

Lesson 1 – 18/02/2025

Introduction to the International Economics Course

Class Schedule

Tuesday at 15:00

• Friday at 9:15

•

Teaching Methods

Frontal lectures (see Course Timetable)

• Office hours: by appointment, send an email to g.barone@unibo.it

•

Teaching Materials

Macroeconomics, N. Gregory Mankiw, 12th edition, MacMillan → Chapters: 2, 4, 7, 13, 14, 15

• International Economics: Theory and Policy, Paul R. Krugman, Maurice Obstfeld, Marc Melitz, Pearson

• Education → Chapters: 2, 3, 4

Slides available on the Virtuale platform

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Assessment Methods

General Exams (Sessioni Esami Ordinaria)

Written exam lasting 45 minutes

• 22 multiple-choice questions (1 correct answer and 3 incorrect ones)

• Grading system:

• Each correct answer: +1.5 points (maximum 33; if >30 = 30L)

o Each incorrect answer: -0.5 points

o No penalty for unanswered questions

o

For Attending Students (Studenti Frequentanti)

Same as the general exam

• No penalty for wrong answers (starting score: 8.25 instead of 0)

• May 9 (provisional) is the last day of the course; attendance is not formally recorded -> EXAM ON EOL, at

• LABIC

International Economics – Course Structure (40 hours)

The course focuses on key topics in international economics, structured around two main building blocks:

1. Macroeconomic Equilibria in an Open Economy

2. Theories of Trade (TED)

More specifically…

Part 1: Macroeconomic Equilibria in Closed and Open Economies

Open Economy: An economy that trades with other countries.

• Closed Economy: An economy that does not engage in international trade.

•

Key Objectives:

Study macroeconomic equilibria in both open and closed economies.

• Understand how equilibrium depends on whether an economy is closed or open.

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Approach:

1. Review Basic Macroeconomic Concepts:

Recap fundamental macroeconomic principles.

o

2. Study Models in the Long and Short Run:

Analyze four cases:

o Long run, closed economy

§ Long run, open economy

§ Short run, closed economy

§ Short run, open economy

§

Thus, we’ll see:

Introduction and recap of basic macroeconomic concepts

• A basic macroeconomic model in a closed economy (long run)

o A basic macroeconomic model in an open economy (long run)

o 2

IS-LM model (short-run, closed economy)

o Mundell-Fleming model (short-run, open economy)

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Trade is assumed to exist in this first part

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Part 2: Theories of Trade – Why It Exists, Pros and Cons

Focus: Theoretical exploration of why trade exists and its pros and cons.

• Relevance: Trade is a hot topic in current debates (e.g., Trump's trade policies and his debate on closed

• economy: is it beneficial for US citizens in the long run?, globalization).

Key models:

The Gravity Model

• The Ricardian Model (based on the idea that trade benefits everyone, for all participating countries)

• The Specific-Factor Model

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What Is International Economics About?

International economics studies how nations interact through:

• Trade of goods and services

o Money flows

o Investment flows

o

And how these interactions shape macroeconomic equilibria

• International economics is an old field, but its importance grows as nations are now more closely linked than

• ever before, becoming more interconnected globalization: Trade has grown significantly over the past

à

century.

Growth of International Trade Trade has grown more than proportionally compared to

GDP

Data: Post-World War II, exported goods as a share of GDP

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increased from ~5% to ~25%.

U.S. trade (exports + imports as a percentage of

•

national income) has shown a consistent upward trend since

1960.

Evolution of international trade: Long-term importance of trade in the global economy

o Horizontal axis: time span from 1827-2015

o Vertical axis: value of exported goods as a share of GDP

o WWII caused a drop in trade, followed by a spectacular

o

increase (from 5% to 29%, a fivefold rise) due to globalization

The US traditionally has a less open economy due to its large

o

internal market

US exports and imports as a share of GDP have been

o

increasing, showing an upward trend

International trade has roughly tripled in importance

o

compared to the economy as a whole in the past 50 years.

2008-09 recession (Great Trade Collapse): sharp drop in

o

trade; both imports and exports fell substantially in 2009 due to

the recession.

Other countries are even more dependent and tied on

o

international trade than the US 3

Evolution of international trade from 1950 to 2017

Visualization: Maps from 1950 to 2017 show increasing openness (dark green) in many countries.

• Trade openness is measured as the sum of a country’s exports and imports as a share of that country’s GDP

• (in %).

1950 vs. 2017:

• Export + import / GDP used as an openness indicator

o More countries have become “green” (open economy), showing trade’s increasing importance

o

Recap of Basic Macroeconomic Concepts

3 macroeconomic concepts:

1. GDP

2. Inflation

3. Unemployment

Macroeconomic Data 1: GDP

Definition of GDP (a measure of economic activity)

Gross Domestic Product (GDP) is the best measure of how well an economy performs

• Dual definition:

• 1. Total expenditure on domestically-produced final goods and services Total income earned by

2. Total income earned by factors of production within a country à

domestically located factors of production.

Both definitions: income / expenditure in a given period of time.

• Key principle: Expenditure = Income (because every dollar spent by a buyer becomes income for a seller)

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Circular Flow Model This model illustrates the continuous movement of money,

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resources, and goods between households and firms in a closed

economy. (It’s a simplified model without government

intervention, financial markets or foreign trade).

2 main economic agents: households and firms

• Labor market: households provide labor to firms in exchange

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of income.

Goods market: firms produce and sell goods and services,

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which households purchase by spending expenditure.

Money flows in the opposite direction of goods and services.

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Firms pay households for labor (income), and households use

this income to purchase goods and services from firms.

Households → Firms: Provide labor and purchase goods/services

• Firms → Households: Pay wages and supply products

• Expenditure ($) = Income ($) in a closed economy interdependence: households rely on firms for goods

• à

and income, while firms depend on households for labor and spending. 4

Concept of Value Added

The notion of value added is central to GDP

• GDP can also be calculated as the sum of value added at each stage of production.

• Value added = Output value – Value of intermediate goods used to produce that output

• Example: Farmer → Miller → Baker → Final Consumer. (Input cost is purchase; output value is sale)

• 1. Farmer sells wheat to miller for €1

2. Miller processes it into flour, sells it to a baker for €3

3. Baker produces bread, sells to an engineer (consumer) for €6

4. GDP and value added? Total GDP = sum of value added (1+2+3 = 6)

à

Final goods count for GDP, not intermediate goods (to avoid double-counting; wheat and flour are

• intermediate goods, bread is the final good)

Final goods, value added, and GDP

The link between value added and GDP:

GDP = market value of all final goods and services produced within an economy in a given period of time

= sum of value added at all stages of production.

NOTE. The value of the final goods already includes the value of the intermediate goods. Including intermediate

à

and final goods in GDP would be double-counting.

Which transactions are included in GDP?

• Used goods? No, it’s a transfer of existing wealth.

• Inventories? Yes, they are production of new wealth.

• Housing services? Housing services to home owners are imputed to GDP (but, for simplicity, services from durable

goods are not).

• Intermediate goods? No.

• Home production? No (hard to evaluate).

• Underground economy? It depends (Many statistical institutes including Istat have an estimate).

The Expenditure Perspective of GDP

In terms of expenditure, the components of GDP are:

C = Consumption

• I = Investment

• G = Government spending

• NX = Net Exports

• à

GDP IDENTITY Y = C + I + G + NX

• Y is the value of total output

• C+I+G+NX is the aggregate expenditure

Consumption (C)

Definition: Value of all goods and services bought by households households spending on goods and

• à

services

Categories:

• Durable goods: Last long (e.g., cars, home appliances)

o Nondurable goods: Short-lived (e.g., food, clothing)

o Services: Intangible, work done for consumers (e.g., dry cleaning, air travel)

o 5

Consumption in the US – 2022: total consumption is 17,363 billion $, broken down into 3 categories:

• Durable goods: 2,186 billion $ (12.6%)

o Nondurable goods: 3,757 billion $ (21.6%)

o Services: 11,420 billion $ (65.8%)

o

The largest portion of consumption is in services, followed by nondurable goods and durable goods.

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Investment (I)

Definition: Spending on goods bought for future use

• Categories:

• Business fixed investment: Spending on capital*, a physical asset used in future production (e.g.,

o machinery, plants, equipment)

Residential fixed investment: Spending by households and landlords on new housing units. (e.g.,

o housing)

Inventory investment: The change in the value of all firms’ inventories (unsold goods counted as

o investment, products to be sold later)

Inventories:

• Suppose a firm: produces $10 million worth of final goods, but only sells $9 million worth

o Does this violate the expenditure = output identity?

o Unsold output goes into inventory, counted as ”inventory investment”…

o …Whether or not the inventory buildup was intentional.

§ …In effect, we are assuming that firms purchase their unsold output

§ The total investment is $4,625 billion,

Investment in the US – 2022: broken down into 3 categories:

• Nonresidential investment: $3,340 billion (72.2%)

o Residential investment: $1,127 billion (24.4%)

o Changes in inventories: $159 billion (3.4%)

o The category with the largest portion of investment is Nonresidential investment.

o

Difference between Investment and Capital:

• Investment = flow variable (new spending) Investment is spending on new capital

à

o Capital = stock variable (existing assets)

o Example.

o On 1/1/2016: Economy has $10 trillion worth of capital

o During 2016: Investment = $2 trillion

o On 1/1/2017: Economy will have $12 trillion worth of capital

o (We have assumed no depreciation of capital).

o

Investment: macroeconomics vs personal finance

• Investment is spending on new capital assets* macro-level

à

o Investment into financial assets (by an individual or a firm) may, or may not, be related to

o macroeconomic investment. micro-level (individual or firm level)

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Investment (macro level): It means spending money to purchase physical and durable goods, such as

o factories, machinery, buildings, and houses. This type of investment helps the economy grow because

it creates jobs and increases production capacity.

Financial investment (individual or firm level): This occurs when a person or a company invests in

o stocks, bonds, or other financial instruments. This type of investment may or may not have a direct

impact on economic growth, as it depends on how the money is used. If a company uses the funds

raised through stocks to build a new factory, it contributes to macroeconomic investment. However,

if the money is merely traded between investors without creating new goods, the impact on the real

economy is smaller.

Example 1. I buy shares on the stock market from some seller. Not macroeconomic

à

§ investment: just a transfer of existing assets.

Example 2. I buy shares at an initial public offering (IPO), which are used by the firm to build

§ new factories. The building of the factories is investment in the macro sense.

à

Government Spending (G) 6

Definition: Total government expenditure on goods/services public sector expenditure (ex. publicly

• à

provided and funded healthcare, education services, policing)

Excludes transfer payments: they do not represent spending on goods and services. (e.g., state pension

• payments, unemployment insurance payments)

Government spending in the US – 2022: total government spending is 4,446 billion $, broken down into 2

• categories:

Federal: 1,647 billion $ (37%)

o State and local: 2,800 billion $ (63%)

o The category with the largest portion of government spending is state and local spending.

o

Net Exports (NX)

Definition: Net exports is revenues from exports, less spending on imports

• Total value Exports (EX) – Total value of Imports (IM) NX = EX-IM

• à

Why include NX?

• GDP includes only domestically-produced goods

o Imports are included in C, I, and G but are not part of GDP, thus they must be subtracted to avoid

o overestimation

Net exports in the US-2022: Total NEX is -973 billion $, and it’s divided in two categories:

• Exports: 2,981 billion $

§ Imports: 3,953 billion $

§

NEX are negative because imports exceed exports. A negative NEX value indicates a trade deficit,

o meaning that the US buys more goods and services from other countries than it sells abroad. This is a

common situation for the US, which typically runs trade deficits due to high consumer demand for

foreign products and a strong currency that makes imports cheaper.

US GDP components, 1929-2016

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This graph shows the percentage composition of different components

of the US GDP over time. The components include consumption,

government purchases, investment, and net exports.

1. Consumption has been the dominant component of GDP, steadily

increasing overtime and stabilizing at around 70% or more. The

à

dominance of consumption highlights the US economy’s dependence

on consumer spending.

2. Government purchases showed fluctuations, particularly a spike

during World War II (early 1940s), after which it declined and stabilized.

The large fluctuations of government purchases reflect periods of

à

war and economic interventions.

3. Investment has remained volatile, showing sharp declines during economic crises but maintaining a relatively stable

trend. Investment volatility is influenced by economic cycles, including recessions and booms.

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4. Net exports have been consistently negative since the 1980s, indicating a trade deficit, meaning that the US imports

more than it exports. The persistent trade deficit suggest reliance on imports, which has been a characteristic of

à

the US economy in recent decades.

Common trends in the US economy: increased consumer spending, fluctuating investment, government intervention

during crises.

GDP: An important and versatile concept

We have now seen that GDP measures:

• total income;

• total output;

• total expenditure;

• the sum of value-added at all stages in the production of final goods.

Nominal vs. Real GDP

GDP is the value of all final goods and services produced.

Nominal GDP: Measures goods/services at current prices uses current prices

• à 7

Real GDP: Uses constant base-year prices (fixed prices) to remove inflation effects

• Why use Real GDP?

• Changes in nominal GDP can be due to: changes in prices; changes in quantities of output produced.

o If prices rise but production remains constant, Nominal GDP increases, but Real GDP does not

o Real GDP measures actual output growth, excluding price changes

o Real GDP changes only due to changes in quantities and it’s constructed using constant base-year

o prices.

EXERCISE: Compute nominal GDP in each year and real GDP in each

year using 2010 as the base year.

Nominal GDP: multiply Ps & Qs from same year

2010: (Pa x Qa) + (Pb x Qb) = (30$x900)+(100$x192)=

46200$

2011: $51,400

2012: $58,300

Real GDP: multiply each year’s Qs by 2010 Ps

2010: 46200$

2011: (Pa2010xQa2011) + (Pb2010xQb2011) = (30$x1000) + (100$x200) = $50,000

2012: (Pa2010xQa2012) + (Pb2010xQb2012) = (30$x1050) + ($100 x 205) = $52,000

Growth comparison of US nominal and real GDP, 1960-2014

Nominal GDP represents the total economic output measured in

current prices, without adjusting for inflation.

Real GDP is adjusted for inflation (measured in 2009$), providing

a more accurate representation of economic growth in terms of

actual output.

Both indicators show a consistent upward trend, with nominal

GDP growing at a faster rate due to the effects of inflation.

The gap between the two lines increases over time, reflecting the

impact of rising prices on nominal GDP.

• The real GDP curve demonstrates that the U.S. economy has

experienced long-term growth, despite short-term fluctuations

(such as the dip during the 2008 financial crisis).

• The divergence between nominal and real GDP emphasizes the importance of adjusting for inflation when

analyzing economic performance.

• The steep increase in nominal GDP in later years suggests rising price levels rather than just an increase in

production

• This graph highlights why real GDP is a more reliable measure of economic well-being, as it accounts f