The economy is currently experiencing an economic boom with low unemployment and high output.
The Federal Reserve could conduct contractionary monetary policy to restore the economy to its natural rate of output.
Draw and upload a graph of the Aggregate Demand and Aggregate Supply model to illustrate the impact of the contractionary monetary policy in returning the economy to the natural level of output.
Be sure to carefully label all components of your graph.
Briefly explain how the contractionary monetary policy works to have the effect that you have shown in the Aggregate Demand and Aggregate Supply model above.
As a result of the
contractionary monetary policy by fed , the money supply in the
economy will reduce. This will lead to the reduction in consumption
and investment. As a result the AD curve will shift to left from AD
to AD1. Initially the economy was under inflationary gap with
equlibrium at E. After the reduction in AD , the new equlibrium is
E1 which is the equilibrium point of economy in short run and even
in long run. Hence the equilibrium in economy is restored.
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