2.1 Assuming fixed exchange rates and no capital mobility, explain the impact of a devaluation of the domestic currency in the Mundell-Fleming model. In your answer, clearly indicate the effect on income, rate of interest, and current account. Illustrate your answer graphically and explain the economics. (8)

Page 11 of 14 2.2. In the Mundell-Fleming model with a floating exchange rate, what happens to aggregate income, the exchange rate, and the trade balance when the world interest rate rises? (8)

2.3. "Under a fixed exchange rate system and perfect capital mobility an increase in foreign interest rates will cause the level of domestic output to rise." Comment on this statement. (4)