In the absence of rational expectations, an expansionary monetary policy should in the short run

Question

Quizplus · Accepted Answer

In the absence of rational expectations, people may not immediately adjust their expectations about future prices and wages, therefore an expansionary monetary policy will increase demand and output, leading to an increase in real GDP and the price level in the short run. It may also lead to an increase in inflation in the long run if the policy is sustained. Shifts in aggregate supply function, increase in unemployment, and stagflation are not expected outcomes of expansionary monetary policy in the short run without rational expectations.

In the Absence of Rational Expectations, an Expansionary Monetary Policy