Question

What is the ideal rate of inflation to you and why? Does the US government have an ideal rate? If the inflation rate is too low or high at any given time, what types of realistic (or unrealistic!) policies would you implement to hit your target inflation? Be sure to demonstrate your understanding of causes of inflation in your answer.

Answer 1

To keep the level of inflation low and stable in an economy government sets an inflation rate of 2 per cent. The current inflation rate in the United States is around 1.8 per cent. The current inflation rate of the economy is ideal and there is no need of any policy changes currently to influence the rate of inflation in the economy.

The inflation rate becomes high because of increase in aggregate demand in the economy. Thus, policies targeted at reducing aggregate demand will help in controlling inflation in the economy. This involves contractionary fiscal of the government and contractionary monetary policy of the government. In case of contractionary fiscal policy, the level of government spending is reduced and taxes in the economy are increased. In case of contractionary monetary policy of the Fed, money supply in the economy is reduced to control inflation rate. Opposite happens when inflation rate in the economy needs to be increased. Expansionary fiscal and monetary policy are implemented by government and Central bank respectively.