Question

Macroeconomics

For each of the following scenarios, draw the graph for the market of money and the shift that occurs for each of the following scenarios. Label both axis, curves, and equilibrium. (2pts)

7. Government decides to buy back bonds.
8. Government decides to borrow money.

Answer 1

A)

When government decides to buyback bonds it will increase money supply in the economy by exchanging bonds for cash. So liquidity of cash or supply of cash increases in the economy and money supply curve shift rightward from Ms to Ms' which leads to decrease in nominal interest rate from i to i' and increase quantity of money from Q to Q' and equilibrium from E to E' as shown in the diagram.

B)

If government borrow from central bank or by printing more money this would lead to increase in money supply which cause price inflation to rise. When money supply increases people have more money and want to buy same number of goods this will cause increase in monetory demand so firm will put up prices which cause inflation.

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