ABC is a small open economy that has a flexible exchange rate, and XYZ is ABC's major trading partner. Suppose there is a change in the consumption preference such that households in both ABC and XYZ want to consume more ABC's goods.

a) At the prevailing exchange rate between ABC's currency (A dollar) and XYZ's currency (X dollar), ABC has balanced balance of payments. What happens to the X dollar/A dollar exchange rate? What happens to ABC's BOP? Explain with the aid of another supply-demand diagram for A$ and be sure to discuss the adjustment in the BOP (i.e., what happens to different components of the BOP). ( Please draw the diagram to explain)

b) Now, suppose the central bank of ABC finds the change in the X dollar/A dollar exchange rate in part (a) undesirable. If it wants to keep the exchange rate from changing, what should it do? What happens to the stock of official reserves in ABC? What happens to the balance of payments after the intervention by the central bank of ABC? Explain.