Suppose a central bank’s short-run response to any change in the economy is to change the money supply to maintain the existing real interest rate. What would happen to the money supply if there were a reduction in government purchases? Given the central bank's policy, what would happen in the very short run (before general equilibrium is restored) to output and the real interest rate? What must happen to the LM curve and the price level to restore general equilibrium?

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If the central banks shortrun response to any change in the economy is to change the money supply to maintain the existing real interest rate lets ana... View the full answer