6) Use the foreign exchange and money market diagrams to answer the following questions about the relationship between t

[answerhappygod]

6) Use the foreign exchange and money market diagrams to answer
the following questions about the relationship between the Indian
rupee (INR) and the Euro (EUR). Let the exchange rate be defined as
rupees per yuan EINR/Eur. Suppose there is a fall in the Indian
nominal money supply. Make the usual assumptions: UIP holds, PPP
holds in the long run, prices are sticky in the short run,
(20p)
a. Assume first that the fall in money supply is temporary (so
that the nominal money supply is put back at its original level in
the long run). Illustrate the effects of this in a pair of graphs,
one for the Indian money market and one for the foreign exchange
market. Label the initial equilibrium as point A, the short-run
equilibrium point B, and your long-run equilibrium point C.
b. Now assume instead that the fall in money supply is
permanent. Illustrate this in a pair of graphs, one for the Indian
money market and one for the foreign exchange market. Label the
initial equilibrium as point A, the short-run equilibrium point B
and your long-run equilibrium point C.
c. For the case you just analyzed above (permanent shock), plot
a graph for each of the following variables over time showing the
initial equilibrium, short run equilibrium, and the long run
equilibrium: India’s nominal money supply, India’s interest rate,
India’s price level, India’s real money supply, and the exchange
rate EINR/EUR.