Suppose last month's inflation report estimated monthly inflation to be 0.4% over the month. The monetary authorities want inflation to not exceed 2% per year. Estimates of potential output state that our economy is currently near potential output. Unemployment rates have been stable at around 5%, but these rates have been rising slightly in the past months. Give a brief summary of what policy makers might be concerned about and suggest what you might do about it, if anything at all. Support your recommendations with analysis using the AS/AD model to illustrate your points.

Answer 1

Draw your AS and AD graph. To lower prices and raise output, you would want the supply curve to shift outward. What government policies could do this? Take a shot.