2. Use the IS-MP model to answer the following questions: (a) Draw an equilibrium in the IS-MP diagram, where equilibrium short-run output Y~0 equals zero, and the real interest rate equals R0. Label all the axis and the curves that you draw. Label the equilibrium point A. (b) Using the IS-MP diagram, discuss how a a crash of home prices affects shortrun output and and the real interest rate. (c) Suppose the government wants to offset the effects of the decrease in financial wealth on output using fiscal policy. That is it will conduct whatever fiscal policy is necessary to bring output back to potential (Y~=0). Describe a suitable fiscal policy. Be sure to describe which exogenous parameter in the IS-MP model it affects, and how this affects the IS and MP curve. (d) Suppose the government implements the fiscal policy you suggested in (d) and undoes the effect of the decrease in financial wealth on output. Compared to the initial equilibrium (before the shock and the polict change), how does the composition of output (consumption, investment, government expenditures) change after the government has offset the effects of the initial shock on output? (e) Now suppose the central bank instead wants to offset the effects of the decrease in financial wealth using monetary policy. That is it will conduct whatever monetary policy is necessary to bring output back to potential (Y~=0). Describe a suitable monetary policy change. Be sure to describe which exogenous parameter in the IS-MP model it affects, and how this affects the IS and MP curve. (f) Suppose the central bank implements the monetary policy change you suggested in (f) and succesfully undoes the effect of the decrease in financial wealth on output. Compared to the initial equilibrium (before the shock and policy change), how does the composition of output (consumption, investment, government expenditures) change after the government has offset the effects of the initial shock on output? 2. Use the IS-MP model to answer the following questions: (a) Draw an equilibrium in the IS-MP diagram, where equilibrium short-run output Y~0 equals zero, and the real interest rate equals R0. Label all the axis and the curves that you draw. Label the equilibrium point A. (b) Using the IS-MP diagram, discuss how a a crash of home prices affects shortrun output and and the real interest rate. (c) Suppose the government wants to offset the effects of the decrease in financial wealth on output using fiscal policy. That is it will conduct whatever fiscal policy is necessary to bring output back to potential (Y~=0). Describe a suitable fiscal policy. Be sure to describe which exogenous parameter in the IS-MP model it affects, and how this affects the IS and MP curve. (d) Suppose the government implements the fiscal policy you suggested in (d) and undoes the effect of the decrease in financial wealth on output. Compared to the initial equilibrium (before the shock and the polict change), how does the composition of output (consumption, investment, government expenditures) change after the government has offset the effects of the initial shock on output? (e) Now suppose the central bank instead wants to offset the effects of the decrease in financial wealth using monetary policy. That is it will conduct whatever monetary policy is necessary to bring output back to potential (Y~=0). Describe a suitable monetary policy change. Be sure to describe which exogenous parameter in the IS-MP model it affects, and how this affects the IS and MP curve. (f) Suppose the central bank implements the monetary policy change you suggested in (f) and succesfully undoes the effect of the decrease in financial wealth on output. Compared to the initial equilibrium (before the shock and policy change), how does the composition of output (consumption, investment, government expenditures) change after the government has offset the effects of the initial shock on output