ABSTRACT

The power of macroeconomics comes from understanding the simultaneous interactions among its three major markets, which are the goods and services (G&S) market, foreign exchange (FX) market, and credit (CR) market. Reductions in real credit costs are transmitted from the CR market to the G&S market. As G&S demand rises, the GDP price index (GDP-PI) and real gross domestic product (RGDP) increase. The FX market is influenced by (1) changes in GDP-PI and RGDP, which are transmitted from the G&S market, and (2) changes in the real cost of credit, which is transmitted from CR market. A rising GDP-PI reduces the demand for Euro-Area exports and increases the Euro Area's imports from foreign nations. Reductions in the real cost of credit make financial investments in the Euro Area less attractive to foreigners and also make financial investments denominated in foreign currencies, such as US dollars, more attractive to Euro-Area residents.