A disinflation policy that lacks credibility
A)results in a leftward shift of the AD curve.
B)will increase the lost output and jobs that result from the policy.
C)will work only if the economy is experiencing a hyperinflation.
D)will have no effect on inflation.

Question

Quizplus · Accepted Answer

A disinflation policy that lacks credibility will not be effective in bringing down inflation, but it will still have negative effects on the economy. In order to bring down inflation, the central bank must convince the public that it is committed to the policy and will continue to pursue it even if the short-term costs are high. If the public doubts the central bank's commitment, they may anticipate a return to inflationary policies and act accordingly, which can lead to a worsening of the inflation problem. At the same time, the costs of the disinflation policy (such as higher unemployment and lost output) will still be incurred, even if they are not effective at reducing inflation. Therefore, a disinflation policy that lacks credibility will both fail to bring down inflation and result in greater costs for the economy.

A Disinflation Policy That Lacks Credibility