Portfolio and Macroeconomic Equilibrium in an Open Economy

This chapter deals with the problems which arise when capital movements are no longer considered to be pure flows, but flows that derive from stock adjustments. The formulation of these adjustments comes within the framework of the Tobin-Markowitz theory of portfolio equilibrium, extended to an open economy by several scholars. The extension of the theory of portfolio equilibrium to international capital movements can be effected in two principal ways. The first is to see the problem as one of partial equilibrium, that is, by examining how the holders of wealth divide up their wealth among the various national and international assets in a context in which national income, current transactions in the balance of payments, etc., are given by hypothesis, that is to say, are exogenous variables. The second way is to insert the portfolio analysis of capital movements into the framework of macroeconomic equilibrium, in which therefore national income, current transactions, etc., are endogenous variables. One thus obtains a more general and satisfactory model (which can be considered an evolution of the traditional Mundell-Fleming model), but which is also more complicated, because alongside flow equilibria and disequilibria, it is necessary to consider stock equilibria and disequilibria and also the interrelations between stocks and flows over the short and long terms. Both ways are treated in this chapter.