Q. Using a figure describing both the U.S. money market and the foreign exchange market, analyze the effects of a temporary increase in the European money supply on the dollar/euro exchange rate.

Answer: A raise in the European money supply will decrease the interest rate on the euro and thus will cause the schedule of the expected euro return expressed in dollars to shift down that causing a reduction in the dollar/euro exchange rate that is an appreciation of the U.S. Dollar and the euro depreciates beside the dollar. The U.S. money supply and money demand aren't going to be affected and thus the interest rate in the U.S. will stay the same.