Chapter 35, Problem 1CYU

To determine

What a classical economist have said about the Fed's policy?

Explanation of Solution

The classical model of price indicates that the economy is flowing freely and prices can be adjusted according to the ups and downs in the economy such as in good economic conditions, prices will go up.

According to the given graph, a classical economist would have predicted that an expansionary monetary policy would only have increased prices and not increased output as output remained constant. It is predicted because price level would be most applicable during the time period of high inflation as it helps to adjust the price at equilibrium. In other words, it supports decreasing the price of goods and services by increasing the real supply of money in the economy with decreasing interest rates. And, this model would not be suitable in a period of low inflation as by decreasing the interest rates, the prices would fall more than the appropriate level of price.

Economics Concept Introduction

Introduction: An aggregate supply refers to the total supply of goods and services at different price levels (aggregated) in the economy. In simple words, it is the total quantity that is produced and sold by firms at different prices in the market.

The price level is the average current price of goods and services in the economy that are produced in a particular interval.