If policymakers attempt to offset a favorable inflation shock with monetary ________, the resulting long-run equilibrium will be at ________ inflation rate compared to allowing the self-correcting mechanism return the economy to potential output.
A)tightening; a higher
B)tightening; a lower
C)easing; a higher
D)easing; a lower

Question

Quizplus · Accepted Answer

A favorable inflation shock is modeled as a downward shift of the SRAS curve, which in the short run results in lower inflation and higher output. The self-correcting mechanism of the economy means that inflation will gradually start to increase until the economy is back in long-run equilibrium at the original level of inflation. If instead the central bank intervenes with a tightening of monetary policy, aggregate demand will shift left and establish a long-run equilibrium where inflation remains at the lower level.

If Policymakers Attempt to Offset a Favorable Inflation Shock with Monetary