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Suppose the economy is in a long-run equilibrium. a. Draw the economy’s short-run and long-run Phillips curves. b. Suppose a wave of business pessimism reduces aggregate demand. Show the effect of this shock on your diagram from part a . If the Fed under takes expansionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate? c. Now suppose the economy is back in long-run equilibrium and then the price of imported oil rises. Show the effect of this shock with a new diagram like that in part a. If the Fed undertakes expansionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate? If the Fed undertakes contractionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate? Explain why this situation differs from that in part b.

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Principles of Macroeconomics (Mind...

8th Edition
N. Gregory Mankiw
Publisher: Cengage Learning
ISBN: 9781305971509

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Chapter
Section
BuyFindarrow_forward

Principles of Macroeconomics (Mind...

8th Edition
N. Gregory Mankiw
Publisher: Cengage Learning
ISBN: 9781305971509
Chapter 22, Problem 4PA
Textbook Problem
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Suppose the economy is in a long-run equilibrium.

a. Draw the economy’s short-run and long-run Phillips curves.

b. Suppose a wave of business pessimism reduces aggregate demand. Show the effect of this shock on your diagram from part a. If the Fed under takes expansionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate?

c. Now suppose the economy is back in long-run equilibrium and then the price of imported oil rises. Show the effect of this shock with a new diagram like that in part a. If the Fed undertakes expansionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate? If the Fed undertakes contractionary monetary policy, can it return the economy to its original inflation rate and original unemployment rate? Explain why this situation differs from that in part b.

Subpart (a):

To determine
Economy’s short-run and long-run Phillips curves.

Explanation of Solution

When the economy is in long-run equilibrium, the short-run and long-run Phillips curves of the economy are explained with help of a diagram.

Figure 1 shows the long-run and short-run Phillips curves of the economy.

Subpart (b):

To determine
Economy’s short-run and long-run Phillips curves.

Subpart (c):

To determine
Economy’s short-run and long-run Phillips curves.

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