After the increase in the price level, the transactions of buying and selling goods and services will require more money. Therefore, people will need to hold a larger quantity of money. Thus the higher price level causes the quantity of money demanded to increase at each interest rate, shifting the money demand curve to the right.

At the initial interest rate of 6%, the quantity of money demanded will be greater than the quantity of money supplied by the Fed. People will sell bonds in an attempt to convert them to money. As bond sales increase, bond issuers will find that they must offer a higher interest rate on bonds in order to attract buyers. As the interest rate rises, people become less willing to hold money until, at the new equilibrium interest rate of 8%, the quantity of money demanded is exactly equal to the quantity of money supplied by the Fed.

The higher price level raises money demand, causing the interest rate to rise. The higher interest rate discourages households and businesses from borrowing to finance residential and business investment. Investment spending falls, leading to a decrease in the quantity of goods and services demanded in the economy. The higher interest rate means a higher return on saving. This discourages consumption spending, which also leads to a decrease in the quantity of goods and services demanded in the economy.

The increase in the price level from 90 to 105 leads to a movement up and along the aggregate demand curve, and it moves the quantity of output demanded from $120 billion to $100 billion.