holding national savings constant, an increase in Net foreign investment (NFI) does what to the accumulation of capital

This question relates to macroeconomics of an open economy. We wish to see what happens when holding domestic savings constant to the level of capital accumulation in an economy. To answer this question it is helpful to firstly note that in a closed economy we have:

Savings = Investment

This is easily extended in an open economy. In an open economy, the equation becomes:

Savings = Investment + Net foreign Investment (NFI)

At the start of the question we were told that savings remains unchanged, however, NFI increases. For the above equality to hold, this must mean that investment decreases.

This is the difficult step (possibly). We need to see that if investment decreases than our accumulation of capital decreases. Investment is how much new capital we purchase. If our investment decreases, this means that our accumulation of capital will decrease. This is since accumulation of capital relates to how much our capital grows over time, if we invest less now we have less capital in the future.

Have an economics question you wish to ask? Try our new forum. It's free to use and requires no registration!

Leave a Reply

Your email address will not be published. Required fields are marked *