Consider an economy where
C=200+0.25(Y-T)
I=150+0.25Y-1000i
G=250, T=200 (M/P)d=2Y-8000i (M/P)s =1600
X = 0.3Y*, IM =0.2Y,
ε (real exchange rate) = 2, Y* is foreign output (Y*=900)
If this economy has flexible exchange rate regime, how would the exchange rate respond to a fiscal expansion policy? Appreciation or Depreciation? Explain why.