If the Fed's policy reaction function equals r = .02 + π, where r is the real interest rate and π is the inflation rate. When the inflation rate is at the current target of 2 percent, then the real interest rate will be set at:
A)2 percent.
B)6 percent.
C)zero.
D)4 percent.

Question

Quizplus · Accepted Answer

According to the reaction rule, the Federal Reserve will set the real interest rate to whatever the rate of inflation is plus 2 percent. So if the rate of inflation is 2 percent, the real interest rate will be set at 4 percent (2 + 2).

If the Fed's Policy Reaction Function Equals R =