Chapter 12 - Determinants of the Balance of Trade

Abstract

Financial institutions, central banks, and governments invest many resources in trying to predict exchange rates and international trade and payments. The theories introduced in this chapter have shaped the way economists, investors, and politicians approach such problems. The elasticities approach to the balance of trade is discussed, showing that it is concerned with how changing relative prices of domestic and foreign goods can change the balance of trade; examples that illustrate the concepts presented are provided throughout. The J-curve effect is examined in detail, which is the pattern of the balance of trade following a devaluation. The currency contract period is also discussed, as well as the Marshall–Lerner condition and the absorption approach to the balance of trade.