Question

Suppose the US money supply is reduced. Briefly explain how the following variables will change in each of the following phases: In the long run

a. Real money supply

b. Interest rate

c. Exchange rate (dollars per euro)

d. Price level

Answer 1

a. AS THE SUPPLY OF US DOLLAR DECREASES IT LEADS TO DECREASES IN LIQUIDITY IN THE MARKET SO THE DEMAND FOR GOOD AND SERVICES TENDS TO DECLINE IN THE MARKET THAT,S WHY PRODUCERS WILL DECREASES THERE PRODUCTION AND EMPLOYMENT LEVEL ALSO DECREASES AND LEADS FALL IN INCOME LEVEL AND ITS LONG TERM EFFECT WILL BE FALL IN REAL MONEY SUPPLY.

B. INTEREST RATE RISES BECAUSE DECREASE IN MONEY SUPPLY AND RISE IN ITS DEMAND AND BECAUSE OF RISING RATE OF INTEREST LEADS TO DECREASES IN  INDUCEMENT TO INVEST AGAIN UNEMPLOYMENT RISES AND A CONDITION COME WHEN PEOPLE START DEMANDING LOANS TO FULFILL  THERE BASIC NEED BY THIS DEMAND FOR LOANS INCREASES MORE AND RATE OF INTEREST RISES CONTINUOUSLY.

C. AS THE SUPPLY OF US DOLLAR DECREASES IT LEADS TO DECREASES IN LIQUIDITY IN THE MARKET SO THE DEMAND FOR GOOD AND SERVICES TENDS TO DECLINE IN THE MARKET THAT,S WHY PRODUCERS WILL DECREASES THERE PRODUCTION .DUE TO DECREASE IN PRODUCTION OUR EXPORTS DECREASES AND IMPORTS STARTS RISING SO THE VALUE OF DOLLAR STARS FALLING IN LONG RUN IN COMPARISON OF EURO.

D,BECAUSE DECREASE IN MONEY SUPPLY LEADS RISE IN DEMAND FOR IT AND RATE OF INTEREST STARTS RISING SO INDUCEMENT TO INVEST DECREASES WHICH LEADS TO FALL IN SUPPLY OF GOODS AND THE PRICES OF GOODS AND SERVICES STARTS RISING .