(a) Assume that R denotes the domestic interest rate and R denotes the foreign interest rate. Under a fixed exchange rate what is the relation between R and R
(b) Assume E denotes the domestic currency price of the dollar for a country which is not the United States. If one wants to analyze only the short run effects of a policy, what does one assume about the Home and Foreign price levels, P and P, respectively.
(c) Assume that there is no ongoing balance of payment crisis. What is this assumption really assume?
(d) Assume a fixed exchange rate system. What does this tell you about E?
(e) Under the above assumptions what are the conditions for internal balance?
(f) How is your answer to Part D above would change if P is unstable due to foreign inflation.
(g) Given the definitions above, how one defines the real exchange rate?
(h) Write the condition for internal balance.
(i) Define the variable not defined before in Part G above.
(j) Using the equation for internal balance derived above, given our assumptions analyze the effects of a fiscal expansion.
(k) What would happen if the government of that country, which is not the United States under Bretton Woods, decides to devaluate its currency?
(l) What would happen if the government of that country, which is not the United States under Bretton Woods, decides to use monetary policy rather than fiscal policy?
(m) Given all of the above, what is the relation between the exchange rate, E, and fiscal ease, i.e., an increase in G or a reduction in T?
(n) Assume that the economy is at internal balance. What will happen if G goes up for a given level of E?
(o) Assume that the economy is at internal balance. What will happen if G goes down for a given level of E?
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