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16. 1% For questions 16, 17, and 18 consider an economy characterized by a real demand for money of the form L(Y,:) = 2Y 3i. Assume that = 1 in the initial equilibrium. The supply of money is controlled by the Central Bank. Assume that money supply has been constant for many periods and that initially the economy is in equilibrium with P,F, and E constant. Suppose that the initial level of money supply is equal to 10 and the initial level of the nominal exchange rate is equal to = 1. Suppose also that the foreign interest is 5% (i = 0.05). (4 points) Calculate the initial price level, P. (5 points) Suppose that there is a temporary increase in output Y from 1 to 1.1. We focus on the short run equilibrium when prices are unchanged and equal to their initial level (P; = Fy). Because the shock is temporary, the expected exchange rate remains fixed at = 1 . Calculate the short run domestic interest rate, 7;, and the short run exchange rate, F, if money supply remains constant at 10. 18. (4 points) Suppose that, as in the previous question, there is a temporary increase in output Y from 1 to 1.1. Suppose that the Central Banks aims to keep the short-run nominal exchange rate constant at = 1 in response to the temporary increase in output. What is the level of M; it must choose to keep the nominal exchange rate constant at =17