Consider a given AD curve with a given inflation target in a graph with inflation rate in the vertical axis and real GDP in the horizontal axis. Currently, the economy is at Y_P, where the AD curve intersects the long-run aggregate supply curve at the target inflation- rate. If the economy faces an adverse demand shock, the AD curve shift to the _______; and as a result, the central bank will ________ the target interest rate to offset the adverse demand shocks.

Question

Quizplus · Accepted Answer

An adverse demand shock would shift the AD curve to the left, indicating a decrease in aggregate demand. To offset this and stimulate the economy, the central bank would decrease the target interest rate, making borrowing cheaper and encouraging spending and investment.

Consider a Given AD Curve with a Given Inflation Target