Real vs. nominal interest rates review
How capital flows work
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Capital flows and the loanable funds market
Capital inflows increase the supply of loanable funds
Capital inflows increase supply of loanable funds → lower r → more investment
Capital outflows decrease the supply of loanable funds
The link: fiscal policy → interest rates → capital flows
Expansionary fiscal policy chain
Effect on the exchange rate
Effect on net exports
Complete chain: fiscal policy to net exports
Monetary policy and capital flows
Contractionary monetary policy
Expansionary monetary policy
The twin deficits hypothesis
Summary: policy → rates → flows → exchange rate → trade
AP Exam Tips
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Common Mistakes
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