Consider a country that is operating with a fixed exchange rate under conditions of perfect mobility.
a. Explain what effects you would expect an in increase in world interest rates to have on the equilibrium values of the following domestic macroeconomic variables in such an economy, assuming no domestic policy response: the level of real GDP, the domestic interest rate, the current and non reserve financial of the balance of payments, and the central bank's stock of foreign exchange reserves.
b. Describe two policy responses that the domestic economy could implement to restore the original level of real GDP, and show how they would work.