c, d, e VII. Assume that the economy starts at the natural level of output. Now suppose there is adecline in business confidence, so that investment demand falls for any interest rate.a. In an AD-AS diagram, show what happens to output and the price level in the short runand the medium run.b. What happens to the unemployment rate in the short run and in the medium run? Suppose that the Federal Reserve decides to respond immediately to the decline in businessconfidence in the short run. In particular, suppose that the Fed wants to prevent theunemployment rate from changing in the short run after the decline in business confidence.c. What should the Fed do? Show how the Fed's action, combined with the decline inbusiness confidence, affects the AD-AS diagram in the short run and the medium run.d. How do short-run output and the short-run price level compare to your answers from part(a)?e. How do the short-run and medium-run unemployment rates compare to your answersfrom part (b)?

The aggregate demand–aggregate supply model, also known as the AD-AS model, is a macroeconomic model that explains price level and production by looking at the link between aggregate demand and aggregate supply.(c) The Federal Reserve should use expansionary monetary policy to increase output by the same amount it would have dropped otherwise in part (a). The AS-AD curve would remain unchanged in the near and medium-term as a result of this. (d) Both short-term output and price levels are higher than they were in part(a). The AS-AD curve has remained unchanged since the Federal Reserve implemented the expansionary monetary policy to counteract the consequences of a drop in business confidence. (e) Unemployment is lower in the short run than in the long run in part (b). The Federal Reserve has been pursuing an expansionary monetary policy to counteract the impact of a drop in business confidence. Unemployment never went down. However, because it is at the natural level in both circumstances, medium-run employment is identical to part (b).