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How can the Fed reduce a continuing inflation? a. by buying bonds in the open market...

How can the Fed reduce a continuing inflation?

a. by buying bonds in the open market
b. by using monetary policy to cause a recession
c. by decreasing the required reserve ratio
d. By lowering interest rates.
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Answer #1

In order to control inflation, Fed has to implement contractionary monetary policy.

Contractionary monetary policy leads to decrease in money supply.

Decrease in money supply leads to rise in interest rates which in result lowers the consumption and investment.

This leads to decrease in aggregate demand.

Given the aggregate supply, this decrease in aggregate demand leads to fall in the price level and thereby the inflation.

However, it also leads to fall in real GDP and may push economy into recession.

Thus, Fed can reduce a continuing inflation by using monetary policy to cause a recession.

Hence, the correct answer is the option (b).

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