Suppose the world consists only of only two countries: Narnia and Freedonia. The exchange rate between the two countries is floating. Furthermore, assume that both economies are going through a recession.

The authorities in Narnia are trying to figure out whether the appropriate policy to raise output is fiscal or monetary. By focusing only on the short-run:

a.(9) Describe the appropriate monetary policy Narnia has to take and its effect on the economy. Make sure you illustrate your answer using the appropriate diagram. Document what impact such a policy will have on the Current Account balance. For your answer use the graph, but also provide a short explanation.

b.(9) Describe the appropriate fiscal policy Narnia has to take and its effect on the economy. Make sure you illustrate your answer using the appropriate diagram. Document what impact such a policy will have on the Current Account balance. For your answer use the graph, but also provide a short explanation.

c.(3) What would be the consequences for Freedonia if Narnia implements monetary policy?

d.(3) What would be the consequences for Freedonia if Narnia implements fiscal policy?

e.(2) Under which policy would Freedonia be a free-rider, i.e. have less of an incentive to undertake its own policies to energize its economy?

f.(4) Can you think of a policy or combination of policy under which Narnia can raise output without changing the current level of the exchange rate? Illustrate your answer using the appropriate diagram.