Answered: (a) Assume the economy starts at full…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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(a) Assume the economy starts at full employment. Illustrate the short-run and long-run impact of an unexpected monetary contraction using the IS-LM model, the AD-AS model, and the Phillips curve. Be sure to label: i. the axes; ii. the curves; iii. the initial equilibrium values; iv. the direction the curves shift; v. the short-run equilibrium values; and vi. the long-run equilibrium values. Explain in words what your graphs illustrate. ) (b) Assume that people form expectations rationally and that the sticky-price model describes the aggregate supply curve in the economy. For each of the following scenarios explain whether or not monetary policy can have real effects on the economy. i. The central bank determines monetary policy at the same time that firms are setting prices, so that both firms and policymakers have all of the same information. ) ii. The central bank determines monetary policy after firms have set prices using information not available at the time prices were set. ) (c) Suppose the slope of the Phillips curve has flattened in recent decades, as evidence seems to suggest. What does this imply about the cost of disinflation?

Definition Definition Relationship between the rate of unemployment and the rate of inflation that shows that the lower the initial rate of unemployment, the greater the rise in wage rate corresponding to a given rise in the rate of unemployment. The Phillips curve assumes that the ratio between prices and nominal wage rates is constant in the short run. Presented graphically, the Phillips curve shows an inverse relationship between the rate of unemployment and the rate of inflation.

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