Question

1. Do you believe that monetary policy should be activist or nonactivist? Why? Explain using diagrams and/or examples

Answer 1

Classical economists do not agree with the expansionary monetary policy. They regard money as medium of exchange only and does not affect real variables.

But Keynese holds different views, If economy is operating below the full employment, monetary policy would be effective in dealing with recession. Expansionary monetary policy will shift aggregate demand to right, so there will be rise in output and employment, In such conditions, expansionary monetary policy should be adopted. So active policy is right here.

Following is diagram:

In above diagram, if expansionary monetary policy is pursued, there will be rightward shift in aggregate demand. so output will rise from Q to Q1.

If economy is already at full employment, then active monetary policy will harm economy only, it would be full reflected on rise in price level. or there will be 100 % rise in price level. Thus, inactive monetary policy must be adopted when economy is at full employment level.