CH. 21

INTERNATIONAL DISEQUILIBRIUM

327

change in interest-rates, but also a lasting change inincome-levels (and probably in price-levels). That isto say, a country’s price-level and income-level areaffected not only by changes in the price-level abroad,but also by changes in the interest-rate, due to a change inthe demand for investment abroad relatively to the demandat home.

(i.) Let us begin with the first and simpler case,where the disturbance of equilibrium comes aboutsolely through a change, let us say a fall, in the price-level abroad. This will result in a falling off in theforeign balance B without a corresponding changein the volume of foreign lending L, with the conse-quence that L will exceed B and gold flows out of thecountry. Temporarily bank-rate must be raised ; butwhen the process, which this sets up, towards a fall,first of prices and then of money-incomes, has beencompleted, the bank-rate can be safely restored to itsprevious level. For the conditions of equilibrium willbe satisfied by a fall in n, the price-level of output asa whole, and also in S 1} L, I 1; and B, below what theywere measured in terms of money before prices fellabroad (though they will be unchanged in terms ofpurchasing power), corresponding to the fall in theforeign price-level. Apart from money-values, the newequilibrium once established will differ in no significantrespect from the old—the character of production willbe unchanged . 1

(ii.) Next let us suppose that the disturbance ofequilibrium is due to a rise in the rate of interestabroad, whereas S and L at home remain the samefunctions of the rate of interest as before. This willresult in an increase of L, with the consequence thatL will exceed B and gold flows out of the country. Asin the previous case, bank-rate must be raised, which

1 This involves certain tacit assumptions, such as that the money-earnings of the different factors of production are all changed in the sameproportion.