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The monetary policy rule states that a central bank can monitor ination and GDP by following the equation given by i = in + (1T - 11') + (Y - YP). In reality, the Bank of Canada does seem to follow this n.||e. and set a targeted ination rate 11'. For this question. suppose 1T. = 1%. Suppose the cunent ination 1T = 11', and yet Y = YP. Let in = 10%. Note: Keep as much precision as possible during your calculations. Yourtinal answer should be accurate to at least two decimal places. a) Find the value of i. b) Now suppose a drop in investment condence leads to Y - YID = 4%. Let us put aside ination rates for now. According to the monetary policy rule, what interest rate should the Bank of Canada now set? c) How would you expect Tr to change when i drops? Explain what happens to AE and AD. As the interest rate drops. rms will spend _ on investment, so AD and AE will _ therefore creating _ pressure on ination. d} Suppose Tr = 11' - 1.5M. Find the new Tr. a) Suppose the Bank knew that the new Tr would be higher. In order to balance between ination and GDP targets, it has to set a new interest rate weighting both of these effects. Now tind the new i that the Bank should set knowing that Tr = 11' - 1.5m. f} Find the corresponding ination rate. Ination rate = |% g) Discuss intuitively why this interest is higher/lower than the one you would have wanted to set in part b). The new interest rate drops from 0 % to 0 %, because knowing that a huge (Select here) in interest rates would (Select here) AD and subsequently (Select here) inflation. Knowing this is the result (due to past experience or economic research), the Bank now has to choose a (Select here) interest rate in order to keep inflation under control