The hypothetical information in the following table shows what the situation will be in 2021 if the Fed does not use monetary policy.

a. If the Fed wants to keep real GDP at its potential level in 2021, should it use an expansionary policy or a contractionary policy? Should the trading desk be buying T-bills or selling them?

b. If the Fed’s policy is successful in keeping real GDP at its potential level in 2021, state whether each of the following will be higher, lower, or the same as it would have been if the Fed had taken no action.
i. Real GDP ii. Potential GDP iii. The inflation rate iv. The unemployment rate

c. Draw an aggregate demand and aggregate supply graph to illustrate the effects of the Fed’s policy. Be sure that your graph contains LRAS curves for 2020 and 2021; SRAS curves for 2020 and 2021; AD curves for 2020 and 2021, with and without monetary policy action; and equilibrium real GDP and the price level in 2021, with and without policy.

Transcribed Image Text:

Year Potential GDP Real GDP Price Level 2020 $18.0 trillion $18.0 trillion 120.0 2021 18.4 trillion 18.3 trillion 122.0