Suppose That the Central Bank Is Required to Follow a Monetary

question 25

Multiple Choice

Suppose that the central bank is required to follow a monetary policy rule to stabilize prices. If the economy starts at long-run equilibrium and then aggregate supply shifts right, what should the central bank do, and what will happen to output?

• A) The central bank should increase the money supply, which causes output to move closer to its long-run equilibrium.
• B) The central bank should increase the money supply, which causes output to move farther from its long-run equilibrium.
• C) The central bank should decrease the money supply, which causes output to move closer to its long-run equilibrium.
• D) The central bank should decrease the money supply, which causes output to move farther from its long-run equilibrium.

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Definitions:

Substitutes

Products or services that can be used in place of one another, where an increase in the price of one leads to an increased demand for the other.

Complements

Goods or services that are used together, where an increase in the consumption of one leads to an increase in the consumption of the other.

Law of Supply

The principle that, other things equal, an increase in the price of a good leads to an increase in the quantity supplied, and vice versa.

Price

The amount of money required to purchase a good or service, representing the value that consumers or buyers are willing to pay.