If the liquidity effect is smaller than the other effects,and the adjustment of expected inflation is slow,then the
A) interest rate will fall.
B) interest rate will rise.
C) interest rate will initially fall but eventually climb above the initial level in response to an increase in money growth.
D) interest rate will initially rise but eventually fall below the initial level in response to an increase in money growth.

Question

Quizplus · Accepted Answer

If the liquidity effect is smaller than the other effects and the adjustment of expected inflation is slow, then an increase in money growth will initially reduce interest rates due to the income and substitution effects dominating the liquidity effect. However, in the long run, the slow adjustment of expected inflation will cause inflation expectations to rise, which will lead to an increase in nominal interest rates above the initial level.

If the Liquidity Effect Is Smaller Than the Other Effects,and