Suppose that initially real GDP equals potential GDP. Then a decrease in aggregate demand occurs. According to the Taylor rule, the Fed should ________ the federal funds rate by ________ government securities in the open market.
A) raise; selling
B) lower; selling
C) raise; buying
D) lower; buying

Question

Quizplus · Accepted Answer

When there is a decrease in aggregate demand, the economy might face lower inflation and higher unemployment. According to the Taylor rule, the Federal Reserve should lower the federal funds rate to stimulate the economy. Lowering the federal funds rate is achieved by buying government securities in the open market, which increases the money supply and encourages spending and investment.

Suppose That Initially Real GDP Equals Potential GDP