# hw7solve - problem set seven solutions 1.) a.) See figure...

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problem set seven solutions 1.) a.) See ﬁgure 1. b.) Despite suceeding at keeping inﬂation low while in place, the entire eﬀect of the price controls are erased once they are removed. The price level rises to the level it would be at if the price controls had never been instituted. 2.) a.) M = 48, so from AD = SRAS we have that 1000 = 400 + 50(48 /P ) which implies that P = 4. Now, using the forumla for the real exchange rate, we can back out the nominal exchange rate. e = e nom P P for 5 = 4 e nom 20 so e nom = 25. b.) If the exchange rate is ﬁxed at 50 crowns per franc, than it is higher than the fundamental rate of 25 crowns per franc, so it is overvalued. At this nominal exchange rate, the supply of francs will exceed the demand for francs, so the central bank will deplete its reserve assets in propping up the exchange rate. c.) Going back to the equation for the real exchange rate, we want to ﬁnd the price level that solves for that real exchange rate, given a nominal exchange rate of 50. 5 = 50 P 20 P = 2 If P = 2, then the desired money stock will solve AD = 1000 = 400 + 50( M/ 2) so, M = 24. At this new price level and money stock, the real money supply has not changed. The real money supply is still 12. However, because the nominal money supply has shrunk, it induces an increase in the nominal exchange rate.

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## This note was uploaded on 09/03/2009 for the course ECON 3140 taught by Professor Mbiekop during the Spring '07 term at Cornell University (Engineering School).

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hw7solve - problem set seven solutions 1.) a.) See figure...

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