Money Market and Foreign Exchange Market.
Use the foreign exchange market and money market diagrams to answer the following questions. This question considers the relationship between Swedish kronor (SK) and Danish krone (DK). Let the exchange rate be defined as Swedish kronor per Danish krone, SK/DK. On all graphs, label the initial equilibrium point A. Suppose that there is an exogenous increase in the real money demand in Sweden.
a. Assume this change in real money demand is temporary. Using the foreign exchange market and money market diagrams, illustrate and explain how this change affects the money and foreign exchange markets. Label your short-run equilibrium point B and your long-run equilibrium point C.
b. Now assume this change in real money demand is permanent. Using a new diagram, illustrate how this change affects the money and foreign exchange markets. Label your short-run equilibrium point B and your long-run equilibrium point C.
c. Illustrate how each of the following variables changes over time in response to a permanent increase in real money demand: nominal money supply MS, price level PS, real money supply MS=PS, Swedish interest rate iSK, and the exchange rate ESK=DK.