Question

Part 3

Imagine that the economy is experiencing inflation and that the Reserve Bank of Australia (RBA) decides to implement a contractionary monetary policy or 'tight money' to return inflation to its target level.

a) What type of open market operations (OMOs) will the RBA undertake consistent with a contractionary monetary policy approach?

b) How will the money supply be affected?

c) Explain how the three stages of transmission process from a contractionary monetary policy link a change in interest rates with a change in an economy’s equilbrium level of output.

d) Using the IS-LM curve diagram, illustrate the impact of a contractionary monetary policy. Make sure to clearly indicate the new equilibrium position including the interest rate and output level.

At the end of your answer to Part 3 state the word count for sub-part c. Your answer to Part 3 sub part c should not exceed 100 words. (Note: answers to sub-parts a and b while written should be no longer than 1 sentence each and hence are excluded from the word count requirement).

(0.5 marks for sub-parts a and b, 3 marks for sub-part c, 2 marks for sub-part d plus 0.25 marks for satisfying the word count requirements - Part 3 worth 6.25 marks)  

Answer 1