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Q. What do you mean by Capital Flows?
With free capital flows, this is a very unreasonable assumption. If we domestic interest rate increase against the foreign interest rates, capital will flow into our country that would drive down the domestic interest rate again.
Most reasonable models in that domestic interest rate is affected by foreign interest rates are more complicated. To understand such models, you should first understand models where this complication doesn't arise. Additionally predictions from models where domestic interest rate isn't affected by foreign interest rates are fairly similar to more realistic models which allows for capital flows.
Consider an economy that having only of those who bake bread and those who make its ingredients. Assume that this economy's production is as follows: 1 million loaves of bread
Why is it important for policymakers to consider both the direct and indirect effects of public policies?
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