Economics (MindTap Course List)
Solutions
Economics (MindTap Course List)
In each of parts (a)–(d), which panel in the accompanying figure best describes the situation?
- a. Expansionary monetary policy that removes the economy from a recessionary gap
- b. Expansionary monetary policy that is destabilizing
- c. Contractionary monetary policy that removes the economy from an inflationary gap
- d. Monetary policy that is ineffective at changing Real GDP
Identify the Figure that best matches with the explained scenario.
Option (a):
When there is a recessionary gap, then the level of output would be less than the full employment output. The expansionary monetary policy would increase the aggregate demand in the economy, which in turn shifts the aggregate demand curve rightward. This would increase the price and output in the economy, and it reaches to the full employment level. This is explained in Figure B.
In Figure B, the horizontal axis measures the output, and the vertical axis measures the price. The LRAS curve indicates the long-run aggregate supply curve. The SRAS curve indicates short-run aggregate supply curve. AD indicates the aggregate demand curve. Point 1 indicates the recessionary situation. The expansionary monetary policy helps the economy to reach the full employment equilibrium Point 2.
Option (b):
Figure ‘C’ illustrates that the economy is at Point 1 where it operates at less than the full employment level. The aggregate demand increases due to expansionary monetary policy. This leads to an increase in the price and output. The expansionary policy also reduces the interest rate, which in turn decreases the cost of borrowing. This would increase the investment and employment and out. Thus, the SRAS shifts rightward and reaches Point 2. The level of output is greater than the full employment level, which is known as destabilizing. This Option b is best explained in Figure C.
In Figure C, the horizontal axis measures the output, and the vertical axis measures the price. The LRAS curve indicates the long-run aggregate supply curve. The SRAS curve indicates the short-run aggregate supply curve. AD indicates the aggregate demand curve...
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