Question

Assume that you are the Fed Chairman and that the country is experiencing a high rate of inflation.  What type of monetary policy would you enact in order to address the inflation? Be specific with your policy recommendations. What would happen to the money supply, the interest rate, equilibrium GDP, inflation, and unemployment as a result of your actions? Why?

Answer 1

To reduce inflation we need to decrease money supply since in inflation too much money is chasing too few goods. So contractionary policy will be enacted though raising reserve requirement open market sale etc. As a result money supply will fall, interest rate rises due to less supply of money(greater the money supply lower the interest), gdp will fall due to less AD, inflation will fall due to less money supply, and unemployment will increase since less AD leads to less output and thus less demand for labour