Monetary policy can be effective in responding to demand shocks, whether the shocks are positive or negative.

Question

Quizplus · Accepted Answer

Monetary policy involves manipulating interest rates and money supply to influence aggregate demand in an economy. In response to a positive demand shock, such as an increase in consumer confidence, the central bank can use contractionary monetary policy to increase interest rates and reduce the money supply, dampening demand pressures and curbing inflationary pressures. In response to a negative demand shock, such as a recession or decrease in consumer spending, the central bank can use expansionary monetary policy to lower interest rates and increase the money supply, stimulating demand and supporting economic growth. Therefore, monetary policy can be effective in responding to both positive and negative demand shocks.

Monetary Policy Can Be Effective in Responding to Demand Shocks