1. Suppose that the long-run real interest rate is 1% and the Fed has an inflation target of 2%. (a) Suppose that the economy starts out in period 0 in long-run equilibrium. Draw the AS-AD diagram corresponding to the equilibrium in period 0, labeling the curves AS0 and AD0. Indicate on your graph the numerical values for the variables on the horizontal and vertical axis in the initial equilibrium. What is the initial value for the nominal interest rate. (b) Assume that in period 1 the Japanese economy enters a recession, and the demand for US exports decreases. Draw the AS and AD curve for period 1, labeling these as AS1 and AD1. Assuming adaptive expectations, does the nominal interest rate go up, down or stay the same between period 0 and pe- riod 1? How do inflation, short-run output, and the real interest rate respond? What happens to consumption and investment? What about exports?