Relationship between inflation and
Answer to Problem 1CQQ
Option “b” is the correct answer.
Explanation of Solution
Option (b):
When the Federal Reserve increases the money supply and expands aggregate
The increase in money supply reduces the interest rate, increases the inflation, and increases the investment. Increasing investment leads to an increase in the employment and income. When the inflation rate increases, the unemployment rate will decrease. There is a negative relationship between inflation and unemployment. Thus, option “b” is correct.
Option (a):
There is a negative relationship between inflation and unemployment. Therefore when inflation increases, the unemployment rate will fall. Thus, option “a” is incorrect.
Option (c):
When the Federal Reserve increases the aggregate demand, it leads to a higher inflation rate in the economy. Thus, option “c” is incorrect.
Option (d):
When the Federal Reserve increases the money supply and expands the aggregate demand, it moves the economy along the Phillips curve to a point with higher inflation and lower unemployment. The increase in demand will lead to an increase in the price level; ultimately leads to an increase in the inflation rate in the economy. Thus, option “d” is incorrect.
Philips curve: Phillips curve shows the inverse relationship between inflation and unemployment.
Inflation: Inflation refers to the tendency of increasing price.
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