Final answer:
The correct answer is C. loanable funds; nominal interest rate. This choice reflects how the real interest rate is determined by supply and demand in the market for loanable funds, and how the nominal interest rate adjusts to equate money supply and demand.
Step-by-step explanation:
Suppose the Fed increases the quantity of money. In the long run, supply and demand in the loanable funds market determines the real interest rate. The nominal interest rate adjusts to make the quantity of real money supplied equal to the quantity demanded. Therefore, the correct answer is C. loanable funds; nominal interest rate.
When the Federal Reserve implements an expansionary monetary policy by increasing the money supply, it usually buys bonds which raises bond prices and lowers the interest rate. This lower interest rate increases investment and stimulates the economy by increasing aggregate demand. The increased aggregate demand can lead to higher GDP and lower unemployment, but it also has the potential to increase inflation, especially if pursued at an increasing rate.