Suppose that the quantity theory of money holds. So, the equation of exchange holds for this economy and money demand (Mo) is proportional to nominal income Further, assume that we are in a classical economy in which real output (Y) is fixed by supply- side factors at 10,000 units and the money supply (M.) is fixed at 8000 units. 

a) Suppose that individuals initially wish to hold a quantity of money balances equal to one-fifth of their nominal income i.e., k-1/5. Use the money market equilibrium condition to determine the initial equilibrium price level for this economy 

b) Now suppose that individuals in this economy increase their money demand and wish to hold money balances equal to one-fourth of their nominal income, i.e., k is now 1/4. With output fixed by supply-side factors at 10,000 units and money supply unchanged at 8000 units how does this increase in money demand affect the equilibrium price level? How would you explain this change in the equilibrium price level? 

c) Graphically illustrate your answers to parts (a) and (b) in an aggregate demand aggregate supply graph. For the aggregate demand curve(s), explicitly indicate some of the (P,Y) combinations used to graph the curve(s) on your graph. Also indicate the initial and new equilibria 3. Use the classical loanable funds model to discuss how a decrease in government spending which is accompanied by a decrease in the issue of bonds to the public would affect the interest rate, investment spending, consumption and aggregate demand. (Note: Your graph MUST be accompanied by a discussion in complete sentences).