In figure 3 we show the money and domestic asset market equilibrium schedules for given stocks of each of the assets. Along MM the domestic money mar… - Rudi Dornbusch

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In figure 3 we show the money and domestic asset market equilibrium schedules for given stocks of each of the assets. Along MM the domestic money market is in equilibrium. Higher interest rates reduce money demand so that equilibrium requires a depreciation and thus a rise in the domestic currency value of foreign assets and - hence wealth. The exchange rate thus plays a balancing role by affecting the valuation of assets.