1. C h a p t e r 1 7 To accompany International Economics, 3e by Sawyer/Sprinkle PowerPoint slides created by Jeff Heyl Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall Output and the Exchange Rate in the Short Run

2. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 2 CHAPTER ORGANIZATION Introduction Aggregate Demand and Aggregate Supply: A Review Determinants of the Current Account Exchange-Rate Changes and Equilibrium Output in an Open Economy Changes in the Exchange Rate and the Composition of Output Summary

3. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 3 How can we analyze the short run of an open economy? What are the impacts on a country’s imports and exports from changes in the real exchange rate? How much effect do changes in foreign trade have on growth rate of GDP? What is the importance of the real exchange rate in an open economy? INTRODUCTION

4. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 4 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Aggregate Demand Aggregate demand is the relationship between total quantity demanded of goods and services in all sectors of the economy and the price level, holding all else constant The axis are total output of goods and services measured by real GDP and the price level measured by GDP price deflator The aggregate demand curve slopes downward to the right

5. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 5 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Figure 17.1The Aggregate Demand Curve Price Level (P) P1P1 P0P0 Y1Y1 Y0Y0 Real GDP (Y) Aggregate Demand (AD) B A

6. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 6 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW The aggregate demand curve does not behave in the same manner as an ordinary demand curve If the price of product falls, the consumer’s real income rises increasing the amount consumed for a normal good (income effect) The lower price induces consumers to purchase more of product because it’s cheaper (substitution effect) Neither the income or substitution effect are relevant to overall price level

7. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 7 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW If the aggregate price level falls, prices consumers pay are falling and prices people receive as wages, rents, etc. are falling No change in demand as the price level falls The price level is a measure of prices in general, not a particular price As price levels falls there is no substitution effect because prices in general are falling, not the price of a particular good

8. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 8 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW This means the aggregate demand curve is negatively sloped for a different reason When the price level changes, the value of people’s wealth changes, the wealth effect An increase in the price level reduces the value of accumulated financial assets and induces people to reduce their consumption of goods and services As the price level changes, real wealth changes and the aggregate quantity demanded changes

9. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 9 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW As the price level rises, interest rates increase, the interest rate effect Higher interest rates curtail business investment and consumer spending on items such as housing and cars As the price level increases, aggregate quantity demanded falls, and vice versa

10. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 10 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW As the price level changes, it impacts a country’s total exports and imports, the international substitution effect As the price level increases, the price of domestically produced goods rises relative to foreign produced goods Foreign demand for domestically produced goods declines and domestic demand for imported goods increases An increase in price level increases a country’s imports

11. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 11 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Changes in Aggregate Demand Changes in the determinants of the aggregate demand will cause the curve to shift The new AD curve shows that at any given price level, society wants to buy more (less) goods and services To analyze the shifts we can use the expenditure approach to calculating GDP

12. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 12 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Figure 17.2Changes in Aggregate Demand Price Level (P) Real GDP (Y) AD AD” AD’

13. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 13 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW There are four different sectors of an open economy that buy real goods and services; public consumption, business investment and public spending on housing, government spending, and exports and imports Changes in any of these factors shifts the AD curve The largest component of aggregate demand is generally consumption (C)

14. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 14 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Public consumption can change for a number of reasons It is sensitive to changes in consumer wealth As consumer wealth changes, the level of consumption changes in the same direction As consumption increases, the AD curve will shift to the right and vice versa

15. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 15 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Changes in consumer expectations about the course of economic events can change current consumption The more confident consumers are about the future, the more likely they are to consume today This would shift the AD curve to the right Lower confidence levels would shift the curve to the left

16. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 16 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW The degree of consumer indebtedness also effects consumption and aggregate demand High level of indebtedness from past consumption financed by borrowing must be paid off and consumers may need to reduce current consumption As consumer spending falls, the AD curve shifts left

17. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 17 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW The government can affect consumption and aggregate demand by adjusting the level of taxes Higher taxes (or lower transfer payments) reduce society’s after tax income The lower income leads to lower consumption spending and the AD curve shifts to the left Of course, lower taxes (or higher transfer payments) increase after tax income, thus consumption, and the AD curve shifts to the right

18. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 18 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Investment spending (I) is even more unstable than consumption spending Investment spending is sensitive to higher interest rates If interest rates change, aggregate demand will change as investment responds to interest rate changes Higher interest rates tend to decrease business and housing investment and lower interest rates tend to increase it

19. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 19 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW As economic conditions change, expectations of future economic conditions generally change in the same direction causing a change in investment spending The government can also change the level of business taxation Increases or decreases in the level of business taxes tend to raise or lower investment spending

20. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 20 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Government spending (G) can also influence the level of aggregate demand As government spending on goods and services increases, aggregate demand increases The opposite is also true Government spending at federal, state or local level in most countries is a sufficiently large component of total spending to have a noticeable impact on aggregate demand even when spending changes are small

21. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 21 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Aggregate demand may change because of changes in exports (X) and imports (I) These are caused primarily by changes in incomes and the exchange rate Exports are very sensitive to change in incomes in foreign countries As foreign incomes increase, exports from the U.S. tend to increase which increases aggregate demand As foreign incomes decline, exports fall and aggregate demand decreases

22. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 22 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW The more that fast economic growth happens in the rest of the world, the greater will be the change in U.S. aggregate demand Movements in the real exchange rate can also affect the level of exports and imports As the dollar depreciates, a unit of foreign currency will buy more U.S. goods and a dollar will buy fewer foreign goods This causes a change in aggregate demand As exports and imports are a relatively small part of the U.S. GDP, this is a trivial effect

23. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 23 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Table 17.1Determinants or Factors that Shift the Aggregate Demand Curve Change in Consumption Spending Change in Consumer Wealth Change in Consumer Expectations Change in Consumer Indebtedness Change in Taxes Change in Investment Spending Change in Interest Rate Change in Business Expectations Change in Business Taxes Change in Government Spending Change in Federal, State, and Local Government Spending Change in Exports and Imports Change in Foreign Incomes Change in Exchange Rates

24. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 24 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Aggregate Supply Aggregate supply is the relationship between the total quantity of goods and services an economy produces at various price levels, holding all other determinant of production unchanged The aggregate supply (AS) curve slopes upward to the right As price level rises, quantity of goods and services economy produces increases

25. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 25 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Figure 17.3The Aggregate Supply Curve Price Level (P) P1P1 P0P0 Y1Y1 Y0Y0 Real GDP (Y) Aggregate Supply (AS) B A

26. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 26 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW The aggregate supply represents the entire economy’s total production in the short run Higher price level brings higher level of total production in the economy We assume that in the short-run, labor force, capital stock, stock of natural resources, and level of technology are held constant The upward slope of the supply curve is related to both rising demand for output and rising unit costs as economy moves closer to full employment

27. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 27 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Unit costs rise because as output expands, prices of inputs rise before economy reaches full employment The various input markets have different demand and supply curves Because the price level is a weighted average of different prices in the entire economy, some prices may be rising while others remain constant The price level on average may rise before the economy reaches full employment

28. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 28 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW One of the most important prices in economy is price of labor, or wages As the economy expands, hiring more labor causes the K/L ratio to fall in the short run This results in a lower marginal output per unit of labor and rising unit labor costs Thus production costs rise as output increases If the price level increases everything else constant, the aggregate quantity supplied increases

29. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 29 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Change in Aggregate Supply A change in the aggregate supply means that the per-unit production costs are rising (falling) for some reason unrelated to an increase in production (output) An increases in aggregate supply will shift the curve to right At any given price level, firms are willing and able to produce more goods and services Firms can produce same level of output at lower unit costs, or unit costs have declined

30. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 30 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Figure 17.4Changes in Aggregate Supply Price Level (P) Real GDP (Y) AS AS” AS’

31. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 31 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW There are two types of changes or shifts in aggregate supply As the potential real GDP increases, the aggregate supply curve shifts to the right As the supply of factors of production (land, labor, capital, entrepreneurial ability) increase over time, the aggregate supply curve will shift right

32. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 32 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Increases in the productivity of factors of production will reduce unit costs and shift the aggregate supply curve to right These movements are synonymous with a country’s long run economic growth We are interested in the type of shifts that result in the short-run, less than one year

33. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 33 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Input prices used in the production of goods may change This causes an increase in the costs of production and decreases aggregate supply Many countries have experienced exchange rate shock where there is a large shift in the real value of a country’s currency in short period of time This changes a firm’s costs of production changing aggregate supply

34. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 34 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Changes in business taxes can also cause a shift in the AS curve Increases in overall business taxes increases costs of production decreasing AS and vice versa The AS curve can also be influenced by changes in the public’s inflationary expectations

35. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 35 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Perceived increases in future inflation cause adjustments in economic action today Producers may attempt to increase prices today to stay ahead of anticipated inflation Workers may attempt to receive larger salary increases today to protect real wages and standards of living The aggregate supply curve will shift to the left

36. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 36 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Aggregate Equilibrium The intersection of the AS and AD curves determine an open economy’s equilibrium If any of the determinants of the demand and supply curves change, the equilibrium level of output and the price level will change Changes in the exchange rate can affect an open economy’s equilibrium level of output and the price level Changes in the exchange rate can affect a country’s trade flows

37. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 37 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Figure 17.6The Equilibrium Price Level and Equilibrium Real Output (GDP) Price Level (P) PePe YeYe Real GDP (Y) Aggregate Supply (AS) E Aggregate Demand (AD)

38. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 38 AGGREGATE DEMAND AND AGGREGATE SUPPLY: A REVIEW Table 17.2Determinants or Factors that Shift the Aggregate Supply Curve Change in Factor Supplies Change in Labor Force Change in Capital Change in Land Change in Entrepreneurial Ability Change in Productivity Change in Input Prices Change in Raw Material Prices Change in the Price of Labor, etc. Change in Exchange Rate Change in Business Taxes Change in Inflationary Expectations

39. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 39 Changes in aggregate demand and aggregate supply influence output We will focus on one component of aggregate demand and supply – the current account We want to examine how a change in the current account (exports minus imports) impacts the equilibrium level of output Changes in other determinants of AD and AS will be ignored DETERMINANTS OF THE CURRENT ACCOUNT

40. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 40 Exports In the short run, a country’s exports are a function of two major determinants The first is the level of income in foreign countries (Y f ) A country’s exports depend on foreigner's ability to pay for the goods and services As foreign incomes change, the level of a country’s exports will also change DETERMINANTS OF THE CURRENT ACCOUNT

41. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 41 The second determinant of a country’s exports is the real exchange rate (RXR) As real value of country’s currency appreciates (depreciates), the level of a country’s exports declines (increases) Size of the effect depends on the size of change in real exchange rate DETERMINANTS OF THE CURRENT ACCOUNT

42. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 42 Imports The first determinant is the level of domestic income (Y d ) As domestic income rises, the level of imports rises Size of effect depends on two factors, the size of change in domestic income and the income elasticity of demand for imports DETERMINANTS OF THE CURRENT ACCOUNT

43. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 43 DETERMINANTS OF THE CURRENT ACCOUNT Table 17.4Factors Determining the Current Account FactorEffect on Foreign Income IncreasesExports IncreaseCurrent Account Increases Foreign Income DecreasesExports DecreaseCurrent Account Decreases Real Exchange Rate IncreasesExports IncreaseCurrent Account Increases Exports Decrease Real Exchange Rate DecreasesExports DecreaseCurrent Account Decreases Exports Increase Domestic Income IncreasesExports IncreaseCurrent Account Decreases Domestic Income DecreasesExports DecreaseCurrent Account Increases

44. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 44 In the short run, the aggregate demand curve is the link between the current account balance and output of the entire economy Because real exchange rate changes impact the current account, we can link real exchange rate changes to changes in domestic economy’s output EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

45. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 45 Exchange Rate Appreciation Equilibrium exchange rate equates inflows and outflows of foreign exchange at XR e Assume this rate is associate with purchasing power parity The equilibrium exchange rate determines the country’s imports, exports, and initial level of aggregate demand EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

46. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 46 EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY Figure 17.7bThe Exchange Rate and Equilibrium Output Price Level (P) PePe P’ Real GDP (Y) YeYe Y’ F G AS AD AD’

47. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 47 Assuming no capital flows between countries, foreign trade is balanced and the economy is at equilibrium If the real exchange rate changes and the currency appreciates, the supply of foreign exchange will increase The equilibrium in the foreign exchange market changes and the real exchange rate appreciates Exports would fall and imports would rise resulting in a current account deficit EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

48. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 48 As the current account moves into deficit, the aggregate demand will decline as exports decline and imports increase The aggregate demand curve would shift to the left The real appreciation of the currency causes a decrease in the equilibrium level of total output (real GDP) EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

49. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 49 Price level also falls as aggregate demand decreases With appreciating currency, the price of imports declines Price of domestic goods that compete with imports may fall as a result The net result is that the domestic price level falls EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

50. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 50 Exchange Rate Depreciation When a currency depreciates, the demand for foreign exchange increases With no capital flows, there is equilibrium and balanced trade As the exchange rate depreciates, a current account surplus would occur Exports increase and imports decrease as the price of domestic goods falls EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

51. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 51 As the current account moves into surplus, aggregate demand increases as exports increase and imports decrease The domestic real GDP increases as total output increases The net result of a depreciating currency is a higher level of output and a higher price level EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

52. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 52 EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY Price Level (P) PePe P’ Real GDP (Y) YeYe Y’ F G AS AD’ AD Figure 17.10bThe Effect of a Depreciation of the Currency

53. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 53 EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY Figure 17.11aThe Effect of a Major Devaluation Exchange Rate (XR) XR e XR” Foreign Exchange (FX) FX e E F S D” D S”

54. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 54 EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY Figure 17.11bThe Effect of a Major Devaluation Price Level (P) PePe P” Real GDP (Y) YeYe Y” G H AS AD AS”

55. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 55 Exchange Rate Shocks Suppose a currency experiences a 75% depreciation in one week Demand for foreign exchange would dramatically increase and the supply would decrease The equilibrium changes and the exchange rate would change This could be the result of capital flight out of country due to a domestic crisis or due to exchange rate being fixed at inappropriate level for long period of time EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

56. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 56 The effects on a domestic economy can be calamitous in the short run Large changes in the exchange rate in the short run can have a substantial effect on the aggregate supply curve If depreciation is large, the effects can be substantial Depreciation causes a large short-run increase in the cost of production EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

57. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 57 The aggregate supply curve would shift to the left This reduction in output may be enough to cause a major recession The economy is now faced with lower output and higher prices While uncommon in developed countries, they are common in developing countries and avoiding these is a major task for policymakers in these countries EXCHANGE-RATE CHANGES AND EQUILIBRIUM OUTPUT IN AN OPEN ECONOMY

58. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 58 1.The real exchange is important because it affects the level of international trade and the rate of growth of GDP in the short run 2.The general framework employed to analyze the effects of real exchange rate changes on domestic output and the price level is called the aggregate demand and aggregate supply model 3.Aggregate demand is the relationship between total quantity of goods and services that all sectors of society demand and the price level SUMMARY

59. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 59 4.The negative slope of the aggregate demand curve indicates that as the price level rises, the values of people’s real wealth decreases and spending declines, interest rates increase and spending declines, the price of domestically produced goods rises with respect to foreign goods and exports decline and imports increase 5.When one of the determinants of aggregate demand that has been held constant changes, the aggregate demand curve will shift SUMMARY

60. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 60 6.Aggregate supply is the relationship between total quantity of goods and services an economy produces at various price levels, holding all other determinants of production constant 7.The aggregate supply curve will shift if one of the determinants of aggregate supply that has been held constant changes 8.The intersection of the aggregate demand and aggregate supply curves determines an open economy’s equilibrium level of output and the price level SUMMARY

61. Copyright © 2009 Pearson Education, Inc. Publishing as Prentice Hall17 – 61 9.Changes in the current account influence the equilibrium level of output 10.The link between the current account balance and the entire economy’s output in the short run is through a country’s aggregate demand 11.Dramatic changes in the real exchange rate can affect the domestic economy through changes in the aggregate supply curve SUMMARY