Internal Balance and External Balance
The discussion of Chapters 6 and 7 (see in particular sections 6.2 and 7.2) shows that a change in aggregate demand has consequences both for internal balance and for external balance. As regards the internal consequences, what emerges from these chapters is that a reduction in aggregate demand tends to drive the economy towards balance when demand is excess and away from balance when demand is deficient. Conversely, an increase in aggregate demand means a movement towards balance when demand is deficient and a movement away from balance when demand is excess. The external consequences of changes in aggregate demand arise from the short-run link between aggregate demand and real imports. A reduction in aggregate demand induces a fall in the quantity of imports (a movement down the short-run import function) ; and, given all the other elements in the external situation, this means a movement towards short-run external balance if international reserves are decreasing and away from balance if they are increasing. Conversely, an increase in aggregate demand induces a short-run increase in real imports and a movement towards external balance if the reserves are increasing and away from balance if they are decreasing.
KeywordsAggregate Demand Excess Demand Balance Line Export Volume Initial Equilibrium
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