HE2007-Money and Banking

1(a) There are two possible reasons for the LM curve to be horizontal, one because of reasons on the money demand side and another because of reasons on the money supply side. Elaborate the two reasons and discuss their implications to the effectiveness of monetary policy. 

1(b) Suppose the central bank of a closed economy chooses to target interest rate. Use the IS-LM-Yn diagram to discuss the effect of a fiscal expansion if there are plenty of unemployed resources and prices are fixed? What will be the effects of the fiscal expansion if the economy is already at full employment. 

2(a) Use the Expectation Augmented Phillip Curves to explain why inflation in the US and Europe was only moderate amid the tight labor market in the early 1960s, but inflation was at a much higher level amid a less tight labor market in the late 1960s. 

2(b) Use the AD-SRAS-LRAS diagram to discuss the effect of a disinflationary policy. 

2(c) Use the Expectation Augmented Phillips Curve to discuss the effect of a disinflationary policy.