Question

With an adverse supply shock, the Federal Reserve has to decide whether to increase inflation and...

With an adverse supply shock, the Federal Reserve has to decide whether to

increase inflation and decrease employment.

increase inflation and decrease unemployment, or decrease inflation and increase unemployment.

reduce both inflation and unemployment.

increase both inflation and unemployment.
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Answer #2

increase inflation and decrease unemployment, or decrease inflation and increase unemployment.

This is because when there is a negative supply shock and aggregate supply curve is shifted to the left, increase in the money supply by the Federal Reserve is going to increase the rate of inflation but bring the GDP back to its supplement level to that unemployment rate declines. Otherwise it can decrease the money supply so that the inflation rate is reduced but then unemployment will increase further. Therefore it has to choose between high inflation or high unemployment.

answered by: anonymous
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