Using monetary policy to help eliminate an inflationary gap

Question

Quizplus · Accepted Answer

Using monetary policy to eliminate an inflationary gap usually involves increasing interest rates, which will decrease consumption and investment. This leads to a decrease in aggregate demand and a temporary increase in unemployment. However, it does not produce a permanent increase in the price level. Option A is incorrect because shifting the aggregate supply curve to the right would not eliminate an inflationary gap, as it would only increase potential output. Option B is incorrect because the steepness of the short-run aggregate supply curve does not affect the effectiveness of monetary policy in reducing aggregate demand. Option E is incorrect because fiscal policy is not necessary for monetary policy to be effective in reducing aggregate demand.

Using Monetary Policy to Help Eliminate an Inflationary Gap