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【正文】 the home currency price per unit of foreign currency. We will turn to the determination of exchange rate later. Thus we may obtain the relative price of a foreign goods dominated in home country’s currency. Let RP denote the relative price. RP=SPf /Pd ?Elasticity Approach 50 Suppose Chinese jeans costing RMB2020, and . sweaters costing $250. Again suppose the exchange rate is $1=. The following table presents an imagined situation of the changes of exchange rate and relative prices (A case from Krugman and Obstfeld (2020)). Exchange rate Pairs of jeans/sweater Conclusion: All else equal, an appreciation of a country’s currency raises the relative price of its exports and lowers the relative price of its imports. Conversely, a depreciation lowers the relative price of a country’s exports and raises the relative price of its imports. ?Elasticity Approach 51 II. Assumptions ?Ine and prices (Pf and Pd) are constant, both home and foreign consumers’ preferences are also constant ?Complete immobility of capital ?Ignoring dynamic effect of the depreciation and using parative static equilibrium approach ?Infinite elasticity of supply of imports and exports ?A small open economy model (SOE) ?Elasticity Approach 52 III. Analysis Definitions Let S, denote exchange rate X, export volume M, import volume B, current account balance denominated in home currency. Since there is no capital mobility at all, B also means a country’s overall status of balance of payments. B=PdXSPfM ?Elasticity Approach 53 Let also ?X and ?M stand for the exchange rate elasticity for export and import demands respectively. Recall the definition of elasticity we have learned in microeconomic theory, we will easily write, Note, why do we use a negative sign before the exchange rate elasticity for imports? SXXSSSXXX ???????SMMSSSMMM??????????Elasticity Approach 54 A Brief Derivation Suppose that home country’s currency depreciate, say, the exchange rate rises from S to S+?S. The depreciation will lead to the changes in exports and imports by ?X and ?M respectively. Be aware that ?X0 and ?M0 (Why?). The new balance of payments, let Bnew denote it, will be, Bnew=Pd(X+?X) (S+?S)Pf(M+?M) Thus change of balance of payments is, ?B= BnewB= Pd?XPfM?SPf S(?M) Pf (?M)(?S) ?Elasticity Approach 55 A simple manipulation arrives at, Since depreciation means ?S0, depreciation will lead to the improvement of a country’s balance of payments if, and only if, ? ?? ??????????????????????????????MfdXffdfMSPXPSMPSMMSMSPXPSMPB?? 1101 ??? MfdX MSPXP ???Elasticity Approach 56 Again, suppose the initial balance of payments is in equilibrium, which means that, B=PdXSPfM=0. Substitute this equation into the condition we have already obtained, ?X+?M1 This inequality is the famous MarshallLerner Condition (BickerdickeRobinson Condition, to be exact), which tells us the condition under which the depreciation of a country’s currency may lead to the improvement of the country’s balance of payments. A some interesting example of China is illustrated in Table 121. ?Elasticity Approach 57 Table 121 RMB Rate and Trade Balance Source: SAFE。 NBSC。 in 100 millions of RMB 58 Tests on China’s ML Condition For more researches on the topic, see Jin and Zhou for a detailed survey of the literature. L i t e r a t u r e S a m pl e pe r i od E c on om e t r i c M e t h od C on c l u s i on L i e t c . ( 1991) 1970 1983 Y e a r l y O L S ? X =。 ? M = P e s s i m i s t i c a r g u m e n t J i n a n d Z h ou ( 2020) 1994 2020 M on t h l y A R D L M L doe s n ot h ol d D a i ( 1997) 1981 1995 Y e a r l y O L S ? X = 1. 0331。 ? M = O pt i m i s t i c a r g u m e n t L u a n d D a i ( 2020) 1994 2020 M on t h l y V A R M L h ol ds C r i t i c a l V a l u e C h e n ( 1992) 1980 1989 Y e a r l y O L S ? X =。 ? M = ?Elasticity Approach 59 IV. Comments ?Taking substitution effect into consideration only, but ignoring ine effect. ?The assumption that capital is pletely immobile is not realistic. Ever since 1980s, international capital flows, esp., hot money, have been more and more prevailing. ?Ignoring the dynamic effect of depreciation. When the effect is taken into account, the socalled J curve effect emerges. See also section and Table 122. ?SOE. Hence, the theory may not be applicable to larger economies. A more general condition may be found in Gandolfo (2020), chapter 7. ?Elasticity Approach 60 Table 122 Estimations of the ML Condition Source: Krugman and Obstfeld (2020) ?X ?M Im pa ct Short run Long run Im pa ct Short run Long run Austria Bel gi um . . Brita in . . Cana da Denm ark Fr an ce . Germ an y . . Ital y . Japa n Neth erla nds Nor way . Sw ed en . . Sw it ze rlan d Unit ed sta te s . 61 V. Extensions The Role of Ine amp。 Others ?If ine effect is taken into account, then the condition for depreciation to improve the balance of payments is, ?X+?M 1+m This is called HarbergerLaursenMetzler Condition. ?If the foreign repercussions are also considered, then the condition should be remedied again, ?X+?M 1+m+m* Where, m* denotes the marginal import propensity of foreign country. ?El