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Assume firms need capital to produce goods and services, thus they must engage in investment spending.
This represents an injection into the circular flow.
Financial intermediaries perform the function of bringing savers and investors together.
Government Spending and Taxes: The balance of trade responds to changes in GDP, the price level, and the exchange rate. Exports depend on spending decisions made by foreign consumers or overseas firms that purchase domestic goods and services. Therefore, exports are determined by influences outside of the home country. This is autonomous, or exogenous, spending from the point of view of the determination of domestic GDP. Imports, however, depend on the spending decisions of domestic residents. Most categories of spending have an import content-like outsourcing of products for making any finished goods like TV, ACs, Cars etc. Thus, imports rise when the other categories of spending rise. Because consumption rises when the income of domestic consumers rises, imports of foreign produced consumption goods, and of materials that go into the production of domestically produced consumption goods also rises with domestic income. Foreign GDP: An increase in foreign GDP, other things being equal, will lead to an increase in the quantity of domestic-produced goods demanded by foreign countries, that is, to an increase in our exports and vice-versa. Relative International Prices: Any change in the prices of home produced goods relative to those of foreign goods will cause both imports and exports to change. What circumstances will cause relative international prices to change? a) International differences in inflation rates, b) and changes in exchange rates. Exchange rate changes may be brought about by changes in interest rates implemented by the monetary authorities. The domestic currency will generally appreciate when the domestic interest rate is raised, and vice-versa.