Suppose that an oil cartel effectively increases the price of oil by 100 percent, leading to...

Suppose that an oil cartel effectively increases the price of oil by 100 percent, leading to a supply shock in both Country A and Country B. Assume that both countries were in the long-run equilibrium (full employment) at the same level of output and prices at the time of the shock.

(a) Describe the short-run impact of this supply shock on prices and output in each country. Do not forget to support your answer on a graph.

(b) Now assume that the central bank of country A takes no stabilizing-policy actions (i.e. central bank of Country A does not try to stabilize output). After the short-run impacts of the adverse supply shock become apparent, the central bank of Country B increases the money supply to stabilize output. Compare the long-run impact of the adverse supply shock on prices and output in each country (taking into account the reaction of the Central Banks described before). Support your answer with a graph.

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Rahul Sunny answered 1 year ago

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