Suppose the money demand function is given by Md/P = 640 + 0.1Y - 5000 (r + ?e).Suppose the central bank changes the nominal money supply depending on income and inflation: Ms = 1000 + 0.1Y - 4000?.(a)If expected inflation equals actual inflation = 0.03, Y = 1000, and r = 0.02, calculate the price level.(b)If inflation rises to 0.04 while the other variables remain as in part a, calculate the price level.(c)If expected inflation rises to 0.04 while the other variables remain as in part a, calculate the price level.(d)If the real interest rate rises to 0.03 while the other variables remain as in part a, calculate the price level.
What will be an ideal response?
Plug in the value of Y and use text Eq. (7.10) to get P = [1100 - 4000?]/[740 - 5000(r + ?e)]. When r = 0.02, this becomes P = [1100 - 4000?]/[640 - 5000?].
| (a) | P = 980/490 = 2. |
| (b) | P = 940/490 = 1.92. |
| (c) | P = 980/440 = 2.23. |
| (d) | P = 980/440 = 2.23. |
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