THE KEYNESIAN MODEL Lecture 4: Introduction to Keynesian Model: Derivation; National Saving Identity. Lecture 5: Multipliers for spending & exports; the transfer problem. Lecture 6: Large-country model; International transmission under fixed vs. floating exchange rates Lecture 7: Adjustment of a CA deficit via expenditure-reducing vs. expenditure-switching policies Lecture 8: Monetary factors

Imports & exports depend on income: Y TB as does consumption: Keynesian consumption function. assuming E & Y* fixed, for now. where slope = -m ≡ - marginal propensity to import TB falls in expansions… …and rises in contractions ITF220 - Prof. J. Frankel, Harvard University M = M d (E, Y)X = X d (E, Y*)

Trade balance rises in recessions, ITF220 - Prof. J. Frankel, Harvard University falls in expansions Goods & Services Current Account E.g., the US trade balance improved sharply in the recession of $ MILLIONS PER QUARTER

Determination of equilibrium income in open-economy Keynesian model Now solve: Prof. J. Frankel, Harvard University Y ≡ A + TB ≡ (C + I + G) + (X – M) and s ≡ 1 – c.

Derivation of National Saving Identity Income ≡ Output (assuming no transfers) Y ≡ GDP S + (T-G) ≡ I + X – M / / NS ≡ S + BS ≡ I + TB National Saving Identity C + S + T ≡ C + I + G + X -M ITF220 - Prof. J. Frankel, Harvard University

US National Saving, Investment, & Current Account as Shares of GDP, Trend: Gap widened, as NS fell relative to I

ITF220 - Prof. J. Frankel, Harvard University } or, expressed as a saving function: S = Y d - C

ITF220 - Prof. J. Frankel, Harvard University Closed economy: NS – I = 0 Fiscal Expansion 1 < Closed-economy multiplier 1/s < ∞

Prof. J. Frankel, Harvard University Open economy: NS – I = TB = X – M

Prof. J. Frankel, Harvard University Fiscal Expansion slope = s Open economy

ITF220 - Prof. J. Frankel, Harvard University End of Lecture 4: Introduction to the Keynesian Model

Bussière, Callegari, Ghironi, Sestieri & Yamano, 2013, "Estimating Trade Elasticities: Demand Composition and the Trade Collapse of " Appendix -- Puzzle: Why did global trade c ollapse in the global recession? (more than usual) 2009 ITF220 - Prof. J. Frankel, Harvard University

Bussière, Callegari, Ghironi, Sestieri & Yamano, 2013, "Estimating Trade Elasticities: Demand Composition and the Trade Collapse of " One answer: There is a marginal propensity to import out of investment, greater than the marginal propensity to import by consumers. And investment fell much more than consumption in