1.Expansionary monetary policy
means increasing Money Supply
MS > MD = Excess supply of 
money, leading to a shift in
the LM curve to the right from
point E0 to E1. there is a new
equilibrium at point E1.

2. The shift of the LM curve
to the right create a BP
deficit
the domestic interest rates
(i) decreased and (i)<(i*)
leading to capital outflows
= domestic investors
sell home currency and buy
foreign currency

3. e (nominal interest rate)
e increased = home currency
depreciates = more home
currency units are needed
to buy one unit of foreign
currency 

(real exch rate) ¤ = P*e / P
P* = price of foreign goods
expressed in home currency

increased of ¤ = depreciation
of the exchange rate
which leads to an
increase of exports and 
decreased of imports, so
the IS curve will shift
to the right to IS'
with new point for 
equilibrium at E2.


4. At E2 = for same interest
rate, higher Y (income), so
monetary policy for flexible 
exchange rate is effective