Question

The following question requires you to upload a document with graphs showing changes over time. You will need to either use a picture from your phone or software to make your graphs. Use the money market and FX diagrams to answer the following questions.

This question considers the relationship between the United States ($) and the British Pound (£). The exchange rate is in dollars per pound. On all graphs, label the initial equilibrium point A and label all your axes correctly.

Illustrate how a temporary increase in the United States' money supply affects the money and FX markets. Label your short-run equilibrium point B and your long-run equilibrium point C.

Illustrate how each of the following variables changes over time (for United States): nominal money supply, price level, real money supply, United States’s interest rate, and the exchange rate .

Answer 1

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Question:

Answer:

When money supply incraese its decrease interest rate and decreasing interest rate increase demand for money. Increasing demand for money increase AD (demand) that incraese output and price level. Normally when demand incraese price incraese and vice-versa. During the recession or economic downfall the central banks injects liquidity or money in the system to boost economic growth. Inecting more money decrease interest rate that incraese demand and increasing demand incraese price level. When the price level incraese its decrease purchasing power of the domestic currency and currency get depreciated. Other side at lower interest rate, the outflow of foreign capital or investment incraese that depreciate domestic currency. Real interset rate is inflation adjusted interest rate. When inflation incraese real interest rate decraese and vice-versa (interest rate is stable or decrease).

So, in the short-run the increasing money supply decrease interset rate, incraese price level, and depreciate domestic currency, real money supply also decrease. But in the long-run depreciated domestic currency incraese export and increasing export increase net export. Increasing net export increase demand for the domestic currency and domestic currency get appreciate. It also incraese nominal money supply in the economy and increasing money supply incraese price level. Increasing price level increase inflation and decrease real interest rate and negatively affect the real money supply.

Graphical representation;

Econoy is equilibrium at point A and increasing depreciating USD and low interest rate increase the demand for GBP (Pound) and demand curve shift right from D1 to D2 and new equilibrium point is B that is a short-term effect. Now in long run depreciating USD will incraese net export that will strengthen the USD and now people sell GBP and buy USD that will incraese supply for GBP and supply curve shift right from S1 to S2 that is a long-term effect.

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