In a simple monetary model :

• Real income grows at 3% at Home and Foreign
• Money supply grows at 7% at Home and Foreign
• There is a decrease in the growth rate of H, from 3% to 0% (a shock to growth rates)

NOW suppose Home pegs its currency to foreign:

a) Write down the relevant monetary model(s) of ER. What is the endogenous variable and how do

we know its value?

(b) How does your description of the baseline setup (before the shock) change?

(c) Describe the CB behavior after the shock. How does it enforce its chosen policy?

(d) Describe what will happen with inflation and the exchange rate after the shock.

(e) Graph the paths of evolution of logged money supply, logged real money demand, logged price

level and logged nominal exchange rate.