You are a recent hire at the Labor Department and are asked to assess monetary policy's effects on labor markets using a stylized DSGE model with sticky prices. You read the Fed's policy statement, and given the negative output gap it decides to ________, which would ________ and ________.
A) reduce taxes; reduce labor demand; push real wages down
B) increase the FFR; reduce consumption; shift labor supply out
C) use a fiscal expansion; lower taxes today; increase taxes in the future
D) change inflationary expectations; raise the target inflation rate; raise real wages
E) reduce the FFR; increase labor demand; push real wages up

Question

Quizplus · Accepted Answer

The best choice is to reduce the FFR, which would increase labor demand and push real wages up. This is because, in a DSGE model with sticky prices, a reduction in the FFR would lead to an increase in investment and consumption, which would increase aggregate demand and output. This increase in output would in turn increase the demand for labor, leading to an increase in employment and real wages.

You Are a Recent Hire at the Labor Department and Are