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Sem 5 Prep
← Open Economy MacroWhat an open economy is

Formulas for this chapter

Aggregate demand in an open economy

AD = C + I + G + (X - M)

Any question that asks for the level of demand or the contribution of the foreign sector. Compute net exports separately, with its sign, before adding.

C
Consumption expenditure by households
I
Planned investment expenditure
G
Government expenditure on goods and services
X - M
Net exports: exports minus imports, an injection when positive and a leakage when negative

Openness ratio

Openness % = (X + M) / AD x 100

Measuring how exposed an economy is to the rest of the world. Note that this is a gross measure: it adds exports and imports, while the trade balance subtracts them.

X + M
Gross trade: exports plus imports, both counted positively
AD
Aggregate demand, computed first from the identity above

Percentage change in the exchange rate

% change in R = (R(new) - R(old)) / R(old) x 100

Whenever a question moves the rate and asks by how much the currency has depreciated or appreciated. R is domestic currency per unit of foreign currency, so a rise in R is a depreciation of the domestic currency.

R
Units of domestic currency per unit of foreign currency, for example Rs per US dollar
R(old)
The starting rate, and always the denominator
Step 2 of 23
The real wordsTheory

The definition, word for word

Open economyone that engages in international trade of goods, services and financial assets.

Three items in that list, not one. Trade in goods is the obvious part. Trade in services and trade in financial assets are equally part of the definition, and India's story is mostly the second and third.

Why study it? The deck gives two reasons: real-world relevance, because most modern economies are open, and policy formulation, because trade, exchange rates and capital flows all affect domestic macroeconomic stability.

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