While the net exports line is commonly assumed to be horizontal, reflecting autonomous net exports, it realistically has a negative slope, indicating induced net exports. Induced net exports means that net exports are based on the aggregate level of income or production in the economy. Net exports are induced because imports are positively induced by income and production. And because imports are subtracted from exports to obtain net exports, net exports are negatively induced by income and production.

However, a number of other factors also affect net exports independent of income. For example, a typical foreign entity like the government of the Republic of Northwest Queoldiolia, might decide to increase its exports by Wacky Willy Stuffed Amigos from the United States. This extra spending is NOT the result of an expanding domestic U.S. economy.

Rather, this expenditure was undertaken for "other reasons" unrelated to domestic income or production. The specific reason underlying Northwest Queoldiolia's increase in spending was the desire of Queoldiolian consumers to obtain these cute and cuddly creatures, prompted in large part to an expanding Queoldiolian economy.

In addition, a change in the currency exchange rate between U.S. currency and Queoldiolian reduced the relative price of Wacky Willy Stuffed Amigos, at least from the perspective of Queoldiolians.

What They Do

Determinants

The exhibit to the right presents the net exports line, labeled X-M. Net exports determinants can trigger either an increase or a decrease in net exports.

• Increase in Net Exports: An increase in net exports is illustrated by an upward shift of the net exports line. At each domestic income and production level, the foreign sector undertakes greater net exports. Click the [Increase] button to illustrate.


• Decrease in Net Exports: A decrease in net exports is illustrated by a downward shift of the net exports line. At each domestic income and production level, the foreign sector undertakes fewer net exports. Click the [Decrease] button to illustrate.

What They Are

• Global Prosperity: The health of foreign economies has a major impact on net exports, primarily through the exports component. When other nations are in fine economic shape, their consumers tend to buy more goods, their business firms are bound to invest in more capital goods, and their government entities are also likely to do more spending. Some of these expenditures end up purchasing goods produced in the domestic economy, that is exports from the domestic economy to the foreign sector. The result is an increase in net exports and an upward shift of the net exports line. Of course, a decline in global prosperity causes a decrease in net exports and a downward shift of the net exports line.


• Exchange Rates: Currency exchange rates are the prices of one currency in terms of other currencies. The currency of one nation is exchange for that of another in part to facilitate foreign trade, exports and imports. When exchange rates change, they affect the relative prices of exports and imports. Suppose, for example, that the price of U.S. currency in terms of Canadian currency is 0.80 Canadian dollars per 1 U.S. dollar. If this price increases, making U.S. dollars more expensive to Canadians, then the price of U.S. goods increases, and Canadians are likely to purchase fewer U.S. exports. Alternatively, the price of Canadian goods falls, which increases Canadian imports into the United States. Both end up decreasing net exports and shifting the net exports line downward. An opposite change in exchange rates, causes an increase in net exports and an upward shift of the net exports line.


• Trade Barriers: Virtually every nation in the world has an assortment of trade barriers, tariffs, restrictions, and subsidies that are used to gain a competitive advantage in the game of foreign trade for their producers. The goal of these trade barriers is to increase net exports by increasing exports and decreasing imports. To the extent that a country is successful, net exports increase and the net exports line shifts upward. However, to the extent that other nations in the foreign sector, which seek to increase their own exports (domestic imports) and reduce their own imports (domestic exports), are successfully, then domestic net exports decline and the net exports line shifts downward.