Which of the following is an additional source of demand for domestic goods and services in an open economy?
Answer & explanation
Correct answer: option 4
The correct answer is option 4:
In a closed economy, there are three sources of demand for domestic goods – Consumption (C ), government spending (G ), and domestic investment (I ).
We can write Y = C + I + G
In an open economy, exports (X ) constitute an additional source of demand for domestic goods and services that comes from abroad and therefore must be added to aggregate demand. Imports (M ) supplement supplies in domestic markets and constitute that part of domestic demand that falls on foreign goods and services.
Therefore, the national income identity for an open economy is Y + M = C + I + G + X - M