Part 1: Choose the best answer to the following multiple choice questions
1. Purchasing power parity holds if
(a) real wage rates adjust so that their purchasing power is the same across all countries.
(b) countries are small and underdeveloped.
(c) purchases are made in the short run and long run.
(d) prices of all goods in the world economy are equal, corrected for nominal exchange rates.
(e) None of the above answers is correct.
2. In the monetary small open-economy model with a ‡ exible exchange rate, an increase in the domestic money supply
(a) increases the domestic price level and depreciates the nominal exchange rate, but has no e¤ect on domestic output.
(b) increases the domestic price level and domestic output, but has no e¤ect on the nominal exchange rate.
(c) increases domestic output, but has no e¤ect on the domestic price level or the nominal exchange rate.
(d) increases the domestic price level, but has no e¤ect on domestic output or the nominal exchange rate.
(e) depreciates the nominal exchange rate, but has no e¤ect on domestic output or the domestic price level.
3. Under a ‡ exile exchange rate, an increase in the domestic money supply leads to
(a) an increase in the domestic real interest rate.
(b) a reduction of the domestic real interest rate.
(c) an appreciation of the domestic currency.
(d) a depreciation of the domestic currency.
(e) None of the above answers is correct.
4. In the monetary small open-economy model with a ‡ exible exchange rate, an increase in the foreign price level
(a) decreases domestic output and the price level, but has no e¤ect on the nominal exchange rate. 1

(b) increases the domestic price level, but has no e¤ect on domestic output or the nominal exchange rate.
(c) decreases domestic output, but has no e¤ect on the domestic price level or the nominal exchange rate.
(d) decreases the domestic price level and the nominal exchange rate, but has no e¤ect on domestic output.
(e) appreciates the nominal exchange rate, but has no e¤ect on domestic output or the domestic price level.
5. In the monetary small open-economy model with a …xed exchange rate, an increase in the foreign price level
(a) decreases the domestic money supply and increases the domestic price level.
(b) increases the domestic money supply and increases the domestic price level.
(c) the domestic price level decreases in proportion to the increase in the foreign price level.
(d) decreases the domestic money supply and decreases the domestic price level.
(e) increases the domestic money supply and decreases the domestic price level.
6. In the monetary small open-economy model, a …xed exchange rate insulates the domestic price level from
(a) both real and nominal shocks from abroad.
(b) real shocks from abroad, but not from nominal shocks from abroad.
(c) nominal shocks from abroad, but not from real shocks from abroad.
(d) neither real nor nominal shocks from abroad.
(e) increases in foreign price levels, but not from increases in foreign interest rates.
7. In the monetary small open-economy model, a ‡ exible exchange rate insulates the domestic price level from
(a) both real and nominal shocks from abroad.
(b) real shocks from abroad, but not from nominal shocks from abroad.
(c) nominal shocks from abroad, but not from real shocks from abroad.
(d) neither real nor nominal shocks from abroad.
(e) increases in foreign interest rates, but not from increases in foreign price levels.

Part 2: Answer all the following questions. (In numerical questions there is no penalty for leaving arithmetic operations indicated.
1. In the monetary small open-economy model, analize the e¤ect on output, employment, the real wage, the price level, the money supply, and the nominal exchange rates of an increase in the world
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real interest rate. In this analysis, be sure to explain how your answer depends on the monetary regime of the country. However, assume that