1. Suppose the Federal Reserve sells $1,000,000 worth of euros in the foreign exchange market but conducts an offsetting open market operation to sterilize the intervention. Show these two transactions on the Feds balance sheet using the t-account. What will be the impact on international reserves, the monetary based, short-term interest rates, and the exchange rate of the dollar?

2. Now suppose the Fed sells $1,000,000 worth of euros in the foreign exchange market but does not sterilize the intervention. Just as above, show these two transactions on the Feds balance sheet using the t-account. What will be the impact on international reserves, monetary base, short-term interest rates, and the exchange rate of the dollar?

3. Suppose Mexican central bank chooses to peg the peso to the US dollar and commits to a fixed exchange rate of $0.05 per peso (par value). Use a graph of dollar-peso foreign exchange market (you can put dollars per peso on the vertical axis) to show what happens when the Fed pursues contractionary monetary policy. Will peso become overvalued or undervalued? What kind of intervention should Mexican central bank employ to defend the peg?