Let's break down the problem step by step. ### **Step 1: Understand the Table and the Question** The table asks you to fill in what the Fed should do to keep the interest rate at the target as income (Y) and price level (P) change. When either Y or P increases, the **demand for money increases** at any given interest rate, so the Fed must **increase the money supply** to keep the interest rate unchanged. If Y or P falls, the demand for money decreases, so the Fed must **decrease the money supply**. ### **Step 2: Fill in the Table** #### **First Row (Done as Example)** - Initial: \( M_1^d, Y = 250, P = 100 \) - Final: \( M_2^d, Y = 300, P = 105 \) - Action: Increase money supply as both Y and P rise. #### **Second Row** - Initial: \( M_1^d, Y = 200, P = 80 \) - Final: \( M_2^d, Y = 250, P = 100 \) - **Explanation:** Both real income and prices rise, so money demand increases. **Action:** The Fed must increase the money supply to keep interest rate at \( i^* \). #### **Third Row** - Initial: \( M_2^d, Y = 250, P = 100 \) - Final: \( M_2^d, Y = 300, P = 100 \) - **Explanation:** Only real income rises, so money demand increases. **Action:** The Fed must increase the money supply to keep interest rate at \( i^* \). #### **Fourth Row** - Initial: \( M_2^d, Y = 250, P = 100 \) - Final: \( M_2^d, Y = 200, P = 95 \) - **Explanation:** Both real income and prices fall, so money demand decreases. **Action:** The Fed must decrease the money supply to keep interest rate at \( i^* \). #### **Fifth Row** - Initial: \( M_2^d, Y = 250, P = 100 \) - Final: \( M_3^d, Y = 275, P = 80 \) - **Explanation:** Real income rises but price level falls. - Calculate the change: - Y increases = increases money demand - P falls = decreases money demand - The net effect depends on which effect is stronger, but since final curve is \( M_3^d \), demand rises (the curve shifts to the right). - **Action:** The Fed must increase the money supply (since the demand curve moves right) to keep interest rate at \( i^* \). --- ### **Final Filled Table** | Initial Md curve | Y | P | Final Md curve | Y | P | Action required by the Fed to maintain interest rate at i* | Explanation | |------------------|-----|-----|----------------|-----|-----|------------------------------------------------------------|-------------| | Md1 | 250 | 100 | Md2 | 300 | 105 | Increase money supply | Both Y and P rise, so demand for money increases | | Md1 | 200 | 80 | Md2 | 250 | 100 | Increase money supply | Both Y and P rise, so demand for money increases | | Md2 | 250 | 100 | Md2 | 300 | 100 | Increase money supply | Y rises, so demand for money increases | | Md2 | 250 | 100 | Md2 | 200 | 95 | Decrease money supply | Both Y and P fall, so demand for money decreases | | Md2 | 250 | 100 | Md3 | 275 | 80 | Increase money supply | Net money demand rises (curve shifts right), so Fed must increase money supply | --- **Summary:** - *Increase money supply* when money demand rises (Y and/or P rises, or the curve shifts right). - *Decrease money supply* when money demand falls (Y and/or P falls, or the curve shifts left). Let me know if you want further explanation or a clearer breakdown for any specific row!