Suppose a country faces the following situation: inflation rate = 5%; target inflation rate = 2%; current federal funds rate = 3%; current GDP 4% below full-employment GDP; and long-run real GDP growth rate = 3%. Which statement correctly describes monetary policy actions that would be recommended according to the monetary rule, inflation targeting, and the Taylor rule?
A) The monetary rule would recommend contractionary policy; inflation targeting would recommend contractionary policy; the Taylor rule would recommend contractionary policy.
B) The monetary rule would recommend expansionary policy; inflation targeting would recommend expansionary policy; the Taylor rule would recommend expansionary policy.
C) The monetary rule would recommend ongoing steady expansion; inflation targeting would recommend expansionary policy; the Taylor rule would recommend contractionary policy.
D) The monetary rule would recommend ongoing steady expansion; inflation targeting would recommend contractionary policy; the Taylor rule would recommend expansionary policy.

Question

Quizplus · Accepted Answer

The monetary rule suggests steady policy if the economy grows at its long-run rate. Inflation targeting would recommend contractionary policy to reduce inflation to the target. The Taylor rule would suggest expansionary policy due to GDP being below potential.

Suppose a Country Faces the Following Situation: Inflation Rate =