Small Open Economy (SOE): Small because consumers and ﬁrms are price takers and their action doesn’t affect world prices. Open because the economy trade with the rest of the world.
– Suppose two goods: a and b
– Terms of trade (TOTab ) or real exchange rate: the price of good a in terms of good b
– We will ﬁnd conditions under which the Small Open Economy imports good a and exports good b
The slope of the Production Possibilities Frontier (PPF) is minus the marginal rate of transformation (MRTa,b), and the PPF is concave (see figure below).
The indifference curve of the representative consumer in the small open economy are downward sloping and convex (see figure below).
International Trade in Goods and Assets – “Macroeconomics” by Stephen D. Williamson