[8 marks] Consider the equilibrium in the money market is given by M/P=L(Y,i), where M denotes the money supply, P the f

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8 Marks Consider The Equilibrium In The Money Market Is Given By M P L Y I Where M Denotes The Money Supply P The F 1 (27.9 KiB) Viewed 28 times

[8 marks] Consider the equilibrium in the money market is given by M/P=L(Y,i), where M denotes the money supply, P the fixed aggregate price level, i denotes the nominal interest rate and Y aggregate real income. Suppose that the money market starts at the equilibrium. Now assume that money supply is increased (everything else constant). Using a diagram to illustrate your answer, explain how the interest rate adjusts to maintain the money market equilibrium in the context of the "theory of liquidity preference".