Appendix 17 1 Stable Foreign-Exchange Markets and

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Appendix 17. 1 • Stable Foreign-Exchange Markets and the Marshall–Lerner Condition Copyright © 2010

FIGURE A 17. 1 The Effect of Devaluation on Domestic Imports with a Perfectly

Effect of $ Devaluation on U. S. Imports, given Perfectly Elastic Supply of Imports • Refer to Figure A 17. 1 above. • A perfectly elastic supply curve of imports means that the U. S. can buy all it wants of good X from the U. K. at the U. K. pound price (i. e. , the supply curve is horizontal). • The $ devaluation shifts the U. S. demand curve for U. K. imports to the left. 17. 1 -3 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

FIGURE A 17. 2 The Effect of Devaluation on Domestic Exports with a Perfectly

Effect of $ Devaluation on U. S. Exports, given Perfectly Elastic Supply of Exports • Refer to Figure A 17. 2 above. • A perfectly elastic supply of exports means that the U. S. is willing to sell to the U. K. all it wants to buy at the U. K. pound price. • The $ devaluation shifts the horizontal supply curve downward. • What happens to U. S. export revenues if the U. K. ’s demand for U. S. exports is inelastic? 17. 1 -5 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

FIGURE A 17. 3 Foreign-Exchange Supply and Demand When Trade Elasticities Are Low 17.

Foreign Exchange Supply and Demand Curves When Trade Elasticities are Low • Refer to Figure A 17. 3 above. • The more inelastic the U. K. demand for U. S. exports, the more likely the foreign exchange supply curve will be negative. • The more inelastic the U. S. demand for U. K. exports, the more likely the slope of the demand curve will be steeper. 17. 1 -7 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

Marshall-Lerner Condition • The Marshall-Lerner Condition states that a $ devaluation will improve the U. S. trade balance and provide a stable foreign exchange market if the sum of the elasticity of demand for U. S. imports and the elasticity of demand for U. S. exports is greater than one. • Refer to Figure A 17. 4 below. 17. 1 -8 Copyright © 2010 Pearson Addison-Wesley. All rights reserved.

FIGURE A 17. 4 Foreign-Exchange Supply and Demand When the Marshall–Lerner Condition Is Met

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