Suppose the economy is initially in long-run equilibrium and experiences a favorable inflation shock.
a. Explain how the AS curve is affected in the short run.
b. Use your result for part a along with an AD-AS diagram to illustrate and explain what will happen to output and inflation in both the short run and the long run if the Fed accommodates the favorable inflation shock.
c. Use your result for part a along with an AD-AS diagram to illustrate and explain what will happen to output and inflation in both the short run and the long run if the Fed does not accommodate the favorable inflation shock.