Suppose the real money demand function is M^d/P= 2000 + 0.2Y - 10,000 (i - i^m). Assume M = 4000, P = 2.0, i^m = .04, π^e = .03, and Y = 5000. The real interest rate that clears the asset market is

Question

Quizplus · Accepted Answer

We can use the formula for the equilibrium real interest rate (i*):

i* = iS1U1P1mS1S1P0 + πS1U1P1eS1S1P0 + (1/V) * [(M/P) - MS1U1P1dS1S1P0/PS1U1P1]

where V is the velocity of money (assumed to be 1 in this case).

Substituting the given values, we get:

i* = 0.04 + 0.03 + (1/1) * [(4000/2) - (2000 + 0.2*5000 - 10,000*(i* - 0.04))/2]

Simplifying and solving for i*, we get:

i* = 0.11 or 11%

Therefore, the answer is C) 11%.

Suppose the Real Money Demand Function Is Md/P = 2000

Suppose the Real Money Demand Function Is M^d/P= 2000