Question

2. IS-MP-AD-IA model. Suppose that the Federal Reserve becomes more worried about the possibility of future inflation, and decides to set interest rates higher in order to reduce that risk. Assume that the economy starts out at potential output.

a) How would the IS and MP curves shift in response to the new Fed policy?

b) What would happen to the real interest rate and output in the short run, according to the IS-MP model? Draw a diagram to help explain your answer.

c) What would happen to the AD and IA curves in the short run? Draw a diagram to help explain your answer. What happens to output and inflation in the short run?

d) According to the IS-MP-AD-IA model, what would happen to output and inflation over time? Draw a diagram to help explain your answer.

e) Assuming the Fed maintains this new monetary policy rule indefinitely, what would happen to the AD-IA and IS-MP diagrams in the long run? Draw those diagrams to explain your answer.

f) What is the long-run effect of the shock on output, inflation, and the real interest rate? What is the long-run effect of the shock on consumption, investment, and government purchases? Briefly explain why. (It’s interesting to note how problem 2 is related to problem 1. If the Fed’s goal is to keep inflation equal to 2% in the long run, and inflation is about 2% currently, then the Fed will be unhappy with the long-run outcomes in problem 1. As a result, the Fed would probably adopt a tighter interest rate policy as in problem 2, here.)

please help me to do every single question A.B.C.D.E.F

Answer 1