Problem 2: Moving the Money Supply [15 Points] Suppose that the Central Bank has currently set the reserve requirements in the economy to be equal to 10%. Assume that there is no cash drain. Suppose also that in this economy there are Sd in initial deposits and $5,000 of cash. 6. Given the above, what is the total Money Supply {MS} in the economy? [2 points] Now suppose that the economy's demand for money {MD} is given by the following equation: MD 2 12,DDD 1.0M] * 1* Where r is the interest rate in integers (eg. at a 2% interest rate, r = 2]. 7'. What is the equilibrium quantity of money {M} and interest rate {r} in this economy? [2 points] Now suppose that the Central Bank wants to close an output gap in the economy, and wants to raise the interest rate by 2% to do this. Assume that the Central Bank targets the Money Supply directly. 8. If the Central Bank is raising rates, then what type ofoutput gap is the economy likely to be in? Explain your answer using the ARI-AS model. Why does raising interest rates close this output gap? [3 points] El. If the Central Bank wants to change the Money Supply by changing the quantity of cash in the market in order to achieve this interest rate increase, how much does it need to change the quantity of cash? [2 points] [Note: lam asking here about the cash balance, which begins at $6,000, not the total Money Supply] Generally, the Central Banks can print money to increase the quantity of cash in the market, but do not \"un-print money". 10. What is one tools that the Central Bank can use to reduce the quantity of cash in the market, and why does this reduce the quantity of cash? [2 points] [Note: changing the reserve requirements, as in the question below, is not a valid answer here] Another tool that Central Banks often use is the reserve requirements that they set for commercial banks. 11. How much would the Central Bank need to change these reserve requirements to achieve the necessary change in the Money Supply to raise these interest rates by 2%? [4 points]