Stable Foreign-Exchange Markets and the Marshall–Lerner Condition Appendix 17.1 Stable Foreign-Exchange Markets and the Marshall–Lerner Condition

FIGURE A17.1 The Effect of Devaluation on Domestic Imports with a Perfectly Elastic Supply

Effect of $ Devaluation on U. S Effect of $ Devaluation on U.S. Imports, given Perfectly Elastic Supply of Imports Refer to Figure A17.1 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.

FIGURE A17.2 The Effect of Devaluation on Domestic Exports with a Perfectly Elastic Supply

Effect of $ Devaluation on U. S Effect of $ Devaluation on U.S. Exports, given Perfectly Elastic Supply of Exports Refer to Figure A17.2 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?

FIGURE A17.3 Foreign-Exchange Supply and Demand When Trade Elasticities Are Low

Foreign Exchange Supply and Demand Curves When Trade Elasticities are Low Refer to Figure A17.3 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.

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 A17.4 below.

FIGURE A17.4 Foreign-Exchange Supply and Demand When the Marshall–Lerner Condition Is Met