Question

If there is a negative temporary supply shock, a.) Please explain ‘no policy response’ case. b.)...

If there is a negative temporary supply shock, a.) Please explain ‘no policy response’ case.

b.) Please explain ‘policy stabilizes inflation in the short run’ case

. c.) Please explain ‘policy stabilizes economic activity in the short run’ case.

-please short answer

-show it graphically
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Answer #1

Negative supply shock causes a decrease in aggregate supply.The supply curve shifts to the left.Price rises and output falls in the economy.

B.To stabilize inflation the government reduces its expenditure.The IS curve shifts to the left.Aggregate demand falls as a result and AD shifts to AD'.Price falls and output rises.

C.To stabilize economic activities,the Central bank increases money supply.LM shifts to LM'.As a result aggregate demand rises and AD shifts to the right to AD'.Output rises to Y.

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