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PROBLEM 5:   MONETARY POLICY If the central bank of Canada institutes a contractionary monetary policy, describe...

PROBLEM 5:   MONETARY POLICY

If the central bank of Canada institutes a contractionary monetary policy, describe what will happen to the following variables relative to what would happen without the policy:

  1. The money supply
  1. Interest rates
  1. Investment
  1. Consumption
  1. Net Exports
  1. The aggregate demand curve
  1. Real GDP
  1. The price level
  1. The value of the Canadian dollar
  1. The long run aggregate supply curve

PROBLEM 5:   MONETARY POLICY

If the central bank of Canada institutes a contractionary monetary policy, describe what will happen to the following variables relative to what would happen without the policy:

  1. The money supply
  1. Interest rates
  1. Investment
  1. Consumption
  1. Net Exports
  1. The aggregate demand curve
  1. Real GDP
  1. The price level
  1. The value of the Canadian dollar
  1. The long run aggregate supply curve

Answer as per Canadian standards. thanks. 10 marks

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Answer #1

Answer) Contractionary monetory policy means there is reduction in money supply which results in leftward shift in LM curve which will increase the interest rates and investment will fall beacause of inverse relationship between investment and interest rate. Reduction in money supply leads to leftward shift in AD curve which will increase the price level initially but there is fall in investment also so AD will reduce and in long run overall price level will rise and real gdp will reduce. Net exports will reduce as the real income has been reduced. The value of Canadian dollar will fall.

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