Let's consider the following economy, represented by the aggregate demand and aggregate supply curves, whose expressions...

 

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Let's consider the following economy, represented by the aggregate demand and aggregate supply curves, whose expressions are as follows: AD: Y = (M-P) AS: P = P + (Y-Y₁) Y is output, M is money supply, P is the price level, P is the expected price level, and Y, is the natural output level. The roles of government spending, G, and taxes, T, have been omitted. For the sake of simplicity, it is assumed that the demand for goods depends on the difference between M and P, rather than on their ratio. 1. Assume that initially, the level of money supply is Mo, and the expected price level, Pr, is equal to the initial price level, P. Find the expression of Po in terms of Mo and Y. (5 points) 2. Suppose that the central bank decides to pursue an unexpected expansionary monetary policy by doubling the money supply: M₁ = 2Mo. (a) Find the short-run equilibrium values of output, Y₁, and price, P, in terms of Mo and Y,. (6 points) (b) How do they compare with Yo and Po? (3 points) (c) Explain intuitively and illustrate your answers using a graph. (5 points) 3. In the medium run: (a) What is the equilibrium value of output, Ym, ? (7 points) (b) Illustrate your answer using graphs. (4 points) 4. Find the value of the equilibrium price, P., in the medium run. How does it compare with the short-run equilibrium price? (5 points) Let's consider the following economy, represented by the aggregate demand and aggregate supply curves, whose expressions are as follows: AD: Y = (M-P) AS: P = P + (Y-Y₁) Y is output, M is money supply, P is the price level, P is the expected price level, and Y, is the natural output level. The roles of government spending, G, and taxes, T, have been omitted. For the sake of simplicity, it is assumed that the demand for goods depends on the difference between M and P, rather than on their ratio. 1. Assume that initially, the level of money supply is Mo, and the expected price level, Pr, is equal to the initial price level, P. Find the expression of Po in terms of Mo and Y. (5 points) 2. Suppose that the central bank decides to pursue an unexpected expansionary monetary policy by doubling the money supply: M₁ = 2Mo. (a) Find the short-run equilibrium values of output, Y₁, and price, P, in terms of Mo and Y,. (6 points) (b) How do they compare with Yo and Po? (3 points) (c) Explain intuitively and illustrate your answers using a graph. (5 points) 3. In the medium run: (a) What is the equilibrium value of output, Ym, ? (7 points) (b) Illustrate your answer using graphs. (4 points) 4. Find the value of the equilibrium price, P., in the medium run. How does it compare with the short-run equilibrium price? (5 points)