Question

12.The texts below describe how to derive the DD schedule. Let E1 and E2 be two exchange rates with E1 < E2. Choose correct words below to complete the texts.

12.a. “Consider the two curves of aggregate demand, one with E1 and another with E2. The curve with E1 is (above / below) the curve with E2. Let Y1 and Y2 be the equilibrium real outputs with E1 and E2, respectively. Because of E1 < E2, Y1 is (greater / smaller) than Y2. This implies that the greater E is, the (greater / smaller) the equilibrium Y you obtain in the equilibrium of the (FX / Money / output) market.”

Answer 1

DD schedule slopes up which implies that output is increased when exchange rate is depreciated and so exchange rate increases. Here we have El and E2 as two exchange rates with El <E2. There are two curves of aggregate demand, AD1 and AD2, that have corresponding exchange rates El and E2. There are two equilibrium levels of output, Y1 and Y2 associated with El and E2, respectively. The curve with El lies below the curve with E2. Because of El <E2, Y1 is smaller than Y2. This implies that the greater E is, greater will be the equilibrium Y you obtain in the equilibrium of the output market. This is because AD and Y operate in goods market.