Open economy

Open economy is considered to be one that performs a commercial interaction with the outside. That is, it buys and sells goods, services or financial assets with the rest of the world’s economies.

With the consolidation of international trade in recent decades and the phenomenon of globalization, this concept has reached its maximum expression, with economies more exposed to import and export as the basis of its economic model and with greater weight in its GDP . In that sense, it could be said that a closed economy is something currently utopian , since no country currently strictly complies with its theoretical requirements.

The most common procedure to open an economy is the assumption of trade agreementsbetween countries, which regulate and control the entry and exit of goods and services creating commercial routes that can be extended later in terms of economic integration .

In economic theory, the most basic analyzes and studies are carried out with assumptions of closed economies with the aim of achieving greater simplicity. Subsequently, the macroeconomic assumptions are added and the open economy model is valued.

The main difference of an open economy with respect to a closed economy is that when there is entry and exit of goods and services, the savings-investment identity changes . This happens because the internal physical capital is not financed with the help of savings, since this happens to be used to finance capital in other places. Another identity that changes is that of expense-production , since having openness abroad it is possible to acquire more financing thanks to lending mechanisms between countries.

The opening of an economy means that this flow of imports and exports throw new concepts to be taken into account and that are analyzed within international finance. In this way, international trade makes concepts such as exchange rates , the balance of payments  or the current account balance gain importance .

Advantages of an open economy

  • The existence of open economy models implies the possibility for consumers of choice among a greater variety of goods and services, by adding nationals and those from abroad. In addition, it often involves finding products at a lower price.
  • The amount of investment possibilitiesalso increases as there is much more openness in the financial field and the important role of modern technology.
  • In the same way, companies and organizations have the possibility of carrying out economic and exploitation activities all over the worldthanks to the opening in terms of production factors, taking advantage of opportunities in other regions and stimulating competition .

Disadvantages of an open economy

  • The improvement of the competitiveness that international trade brings with it can become something negative for smaller producersand that do not have certain advantages that a foreign one could have.
  • Experience has shown how the benefit of trade is much greater for economies that export than for those that matter, proportionally.
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