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Exhibit: Monetary Policy and Long-Run Aggregate Demand and Aggregate Supply
-(Exhibit: Monetary Policy and Long-Run Aggregate Demand and Aggregate Supply) If the economy is at point b, the Federal Reserve can close the output gap
A) by pursuing an expansionary monetary policy to raise the interest rate and decrease short-run aggregate supply.
B) by pursuing a contractionary monetary policy to drive down the interest rate and decrease aggregate demand.
C) by pursuing an expansionary monetary policy to drive down the interest rate and decrease short-run aggregate supply.
D) by pursuing a contractionary monetary policy to raise the interest rate and reduce aggregate demand.

Question

Use the following to answer questions .
Exhibit: Monetary Policy and Long-Run Aggregate Demand and Aggregate Supply 
-(Exhibit: Monetary Policy and Long-Run Aggregate Demand and Aggregate Supply) If the economy is at point b, the Federal Reserve can close the output gap
A) by pursuing an expansionary monetary policy to raise the interest rate and decrease short-run aggregate supply. 
B) by pursuing a contractionary monetary policy to drive down the interest rate and decrease aggregate demand. 
C) by pursuing an expansionary monetary policy to drive down the interest rate and decrease short-run aggregate supply. 
D) by pursuing a contractionary monetary policy to raise the interest rate and reduce aggregate demand.

Quizplus · Accepted Answer

At point b, the economy is experiencing a positive output gap, which means that actual output is greater than potential output. To close this output gap and reduce inflationary pressures, the Federal Reserve needs to pursue a contractionary monetary policy, which involves raising interest rates and reducing the availability of credit. This will reduce aggregate demand, which will in turn reduce output and inflationary pressures. Therefore, the best choice is D.

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