THE BALANCE OF TRADE, INTEREST RATES, AND CAPITAL MOVEMENTS

C. H. Lee

Kyklos, 1970, vol. 23, issue 1, 65-74

Abstract: In this paper a simple macro‐model of an open economy is presented in order to investigate the relationship between the trade balance and the interest rate. It is shown that under certain conditions the model generates a lag relationship between the two variables. This is consistent with the relationship which JÜrg Niehans found to exist between the Swiss trade balance and its interest rate. With interest‐rate sensitive capital movements introduced into the model, fluctuations in the balance of payments can be greater or less than fluctuations in the balance of trade. It is interesting to note that in the case where an internal balance is maintained with a monetary policy fluctuations in the balance of payments are greater than in the case where an internal balance is maintained with a fiscal policy. This conclusion is consistent with Mundell's prescription for an optimal mix of monetary and fiscal policy.

Date: 1970
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