Suppose Equilibrium in a financial market:
M/P = YL(i)
a. what is an expression for Y in terms of i (i.e. Y = ….)
b. suppose the central bank holds the money supply constant. Using part a’s answer, derive dy/di. What’s the sign? How does it relate to the slope of LM curve derived in class? (hint: if y=1/f(x), then y’= -f’/f(x)^2)
Now suppose that equilibirum in financial markets is:
M/P = Y (.25 – i)
c. derive an expression for Y in terms of i (i.e. Y = …)
d. suppose the central bank holds the real money and supply constant. using part c’s answer, derive dy/di. whats the sign? if there is a small increase in i, by how much does output need to increase to maintain equilibrium in financial market?