[MUSIC] What happens when a currency moves around? Now we're going to continue to talk about a currency falling and rising in value, just to make our lives a little bit easier. What happens when a currency changes in value, when it moves up or it moves down? What happens to the real economy? Well, we're going to explore that a little bit. And again you can, please feel free to draw this yourselves if you want to, because it will help you, and to illustrate some of your own examples with this. We're going to go back to this diagram of supply and demand for US dollars. And we've got an equilibrium price here, which would be the exchange rate. And over here we're going to put another diagram. Now if you did my first course, Understanding Economic Policymaking, you're familiar with this. This will be the real economy over here. So we've got just the currency over there, but we've got the real economy here. And we're going to put a downward sloping curve, which represents all demand for everything in the economy. We're going to call that aggregate demand. I'm not going to write it all out here, but aggregate demand. And you know this from, if you took the first course, that's everything demanded by everybody in the economy. This is aggregate supply. This is a curve that slopes upward. That's everything produced by all our producers in the economy. So this curve aggregate supply, looks like this. And the place where they meet, gives us an equilibrium price level, okay? So this would mark inflation. And then this gives us an equilibrium GDP, this is actually real GDP, okay? So as you know, if you've macroeconomics, if you did my previous course, you know that if there's more GDP, there's less unemployment, okay? But often there's more inflation. If there's less GDP, there's more unemployment, often there's less inflation. That's not written in stone, but anyway, the GDP and unemployment relationship is pretty reliable. So as we move to the right, we're growing more, unemployment is going down. As we move to the left we're growing less, unemployment is going up, okay? So what I'd like to see with you for just a moment, is what happens when the currency changes in value? Let's imagine that the currency falls in value. Now we could do whatever we want to, to make that happen. So let's just move, let's let supply move out to the right, okay? And let's, let the currency then decline down to here, okay? Now if the currency declines in value, what will happen over here? Well, aggregate demand is consumption, investment, government spending, and net exports, x minus m, okay, net exports, that is what aggregate demand is. So imagine that the currency falls in value, the US dollar falls in value. What will happen as a result is that US exports will become more attractive to the rest of the world, because they'll make it on to world markets at a lower price, okay? At a lower price in foreign currency terms, because the dollar is now cheaper for foreigners, okay? So if that's the case, what will happen, is that probably net exports will go up, because more people will want to buy US goods. And therefore, aggregate demand will go up, the country will grow more. It will also have some more inflation, and this inflation is for two reasons. One, is just the growth. The other is imports will come in at a more expensive price, won't they? Because now my currency is weaker, and to buy the foreign currency, we come in at a higher value, right? So in general, in all of these things, there are many, many caveats to them, okay? So the science here is complex. But I'm just giving you some general, general outlines. If a currency falls in value, the expected effect on the economy could be that exports go up, imports go down, we get more growth, we get more inflation, okay? Now imagine one other thing in this particular situation. Imagine that a country has foreign debt. Now this would not be the case for the US dollar, for the United States, as you know if you studied understanding economic policy making. But imagine a country has debt in another currency. When its currency falls in value, it will cost it more to repay that debt. And so, the foreign debt will go up, okay? So these would be the three things that would happen if the currency declines in value. We get more growth. We get more inflation. We get more foreign debt. There's a good side, there's a bad side. Now imagine that the opposite happens and for whatever reason, and I'm just going to move demand here. For whatever reason the currency rises in value, okay? Because of additional demand for US dollars, let's say. The currency rises in value. Now what's going to happen is that net exports are going to go down instead of up, because now our products will look more expensive on foreign markets. And foreign products will look cheaper to us, therefore, exports go down, imports go up. The result will be, an inward shift in the aggregate demand curve just because of net exports. When aggregate demand shifts inward, we're going to see ourselves with less growth, okay? Less inflation, so there's a good part, excuse me, there's a bad part and there's a good part. We can control inflation, but we're not going to have as much growth. And people are happy when there's growth. At the same time, if the US dollar has declined in value, excuse me, has risen in value, the value of the foreign debt if the US had it, would be going down. Because I take my currency and I would be able to translate it into less foreign debt. So you see again that there's a good side, there's a bad side. Currency values are a two-edged sword. And it's hard to determine whether you really want your currency to go up, or you want it go down at any moment in time. [MUSIC]
