Consider a simplified version of the Taylor rule, where monetary policy depends only on short-run output: (a)
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(a) Draw an IS-MP diagram, but instead of the usual MP curve, plot the simplified version of the Taylor rule. You might label this curve MPR for €œmonetary policy rule.€
(b) Now consider the effect of a positive aggregate demand shock in the IS-MPR diagram. (An example might be a fiscal stimulus.) Compare and contrast the effect of this shock on the economy in the standard IS-MP diagram versus the IS-MPR diagram. Why is the result different?
(c) Economists refer to the result in the IS-MPR diagram as €œcrowding out.€ What gets crowded out and why?
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a The IS curve has a negative slope as usual But the MP curve has a positiv...View the full answer
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