QUESTION: On the Tobin graphs, show the optimal change in

(the portfolio weight on bonds) that would arise from a decrease in

money risk, everything else constant.

Assume, im = 0 and that m is always less than the b. You must start

from a situation where m > 0, and assume a 50/50 portfolio to begin.

The first stage in the problem is getting the slope changes right in both

diagrams and examining how WE and SE affect the choice of the new .

The market effects enter in the second stage.

After providing the diagram, please answer the following 3 questions: (Please draw a graph here)

a. Given = B/(M+B), explicitly show the direction of change in

derived from SE and WE.

b. In the market stage, explain how and why the risk premium on bonds

changes.

c. Thinking of the problem in terms of the three-sector bond and money

market shifts, what should happen to the price of goods P? Can you

show this through the equation underlying the money market?