Question

Consider the links between the product market, the money market and the foreign exchange market.

Part (a)

What do you expect will happen in the money market because of the economic slowdown as a direct consequence of the COVID-19 crisis – what curve will shift, why and in which direction? In your answer do NOT include action taken by the central bank, ie monetary policy impact.

Part (b)

What is the impact on the interest rate as a result of part (a) above? (0.5 mark)

Part (c)

Based on the change in the interest rate of part (b) above, consider the foreign exchange market:

(i) Which curve(s) will shift? (0.5 mark)

(ii) In which direction will the curve(s) in part (i) above shift and why?

(iii) What is the impact on the exchange rate as a result of parts (i) and (ii) above? (0.5 mark)

(iv) How will the change in the exchange rate from part (iii) above affect exports, imports and thus net exports. (1.5 mark)s

(v) How will this affect the AD-AS model – which curve(s) will shift, in which direction and why?

Answer 1