Suppose that money demand is given by MD Y(0

Economics Dec 11, 2020

Suppose that money demand is given by MD Y(0.25 – i) where Y is 100. (a) If the Central Bank sets an interest rate target of 10%, what is the money supply the Central Bank must create? (b) If the Central Bank wants to decrease i from 10 to 5%, what is the new level of the money supply the Central Bank must set?

Expert Solution

At Equilibrium Money Supply= Money demand

Answer a)

Md=Y(0.25-i)

At Y=100

i=10/100=0.1

Md=100(0.25-0.1)

Md=100(0.15)

Md=15

Central bank should set Money supply=15

Answer b)

Md=Y(0.25-i)

At Y=100

i=5/100=0.05

Md=100(0.25-0.05)

Md=100(0.2)

Md=20

Central bank should set Money supply equal to 20.

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