Problem
Consider the monetary approach in the long run and the general model where demand for real balances is a function of the nominal interest rate. Before time T, domestic money, prices, and the exchange rate all grow at the rate . At time T, there is an increase Ap in the rate of growth of home money supply M. How will exchange rate behave in the long run? Show the paths of the key variables (M, M/P, i, P, E) before time T, at time T, and after time T. Briefly explain your reasoning.