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An open economy is an
The act of selling goods or services to a foreign country is called
There are a number of economic advantages for
If a country has an open economy, that country's spending in any given year need not equal its output of goods and services. A
In a closed economy, all output is sold domestically, and expenditure is divided into three components: consumption, investment, and government purchases.
Y = C + I + G
where Y is the national income, C is the total consumption, I is the total investment and G is the total government expenditure. In an open economy, some output is sold domestically and some is exported to be sold abroad. We can divide expenditure on an open economy’s output Y into four components: Cd, consumption of domestic goods and services, Id, investment in domestic goods and services, Gd, government purchases of domestic goods and services, X, exports of domestic goods and services. The division of expenditure into these components is expressed in the identity
Y = Cd + Id + Gd + X.
The sum of the first three terms, Cd + I d + Gd, is domestic spending on domestic goods and services. The fourth term, X, is foreign spending on domestic goods and services(the value of exports). Since total domestic spending is a sum of spending on domestic as well as foreign goods and services, we can say that,
C = Cd + Cf, I = I d + I f, G = Gd + G f.
We substitute these three equations into the identity above: Y = (C − Cf ) + (I − I f ) + (G − G f ) + X. We can rearrange to obtain
Y = C + I + G + X − (Cf + I f + G f).
The sum of domestic spending on foreign goods and services (Cf + I f + G f) is expenditure on imports (IM). We can thus write the national income accounts identity as
Y = C + I + G + X − IM.
Since the value of total imports is a part of domestic spending and it is not a part of domestic output, it is subtracted from the total output.This gives us the value of Net Exports (NX = X − IM), the identity becomes
Y = C + I + G + NX.
In closed economy: National savings = Investment. Closed economy countries can increase its wealth only by accumulating new capital.
If output exceeds domestic spending s, we export the difference: net exports are positive. If output falls short of domestic spending, we import the difference: net exports are negative.