8a. Assume that an economy is at equilibrium at its potential GDP at $10 trillion and apricelevel of 100. What would be the short-run impact of a significant fall in consumer confidenceabout the future? Provide an AD/AS model to support your answer.b. What policy would you recommend to the chairperson of the Federal Reserve? Be specific.Show the effect of this policy on your graph part a.c. What are the major goals of the Fed's monetary policy?

a) When the household-sector loses confidence about the future, the aggregate-demand drops…

Answered: 8a. Assume that an economy is at…

Principles of Economics (MindTap Course List)

8th Edition

ISBN:9781305585126

Author:N. Gregory Mankiw

Publisher:N. Gregory Mankiw

Chapter36: Six Debates Over Macroeconomic Policy

Section: Chapter Questions

Problem 1PA

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8a. Assume that an economy is at equilibrium at its potential GDP at $10 trillion and aprice
level of 100. What would be the short-run impact of a significant fall in consumer confidence
about the future? Provide an AD/AS model to support your answer.
b. What policy would you recommend to the chairperson of the Federal Reserve? Be specific.
Show the effect of this policy on your graph part a.
c. What are the major goals of the Fed's monetary policy?

Expert Solution

Step 1

When the household-sector loses confidence about the future, the aggregate-demand drops significantly. Consumers restraint their spending on durable-goods as they tend to postpone their purchases for later. They are less likely to buy houses, cars, TV and other durables. Instead they are inclined to save, just in case. Low aggregate-demand culminates into a lower price-level too. Therefore, as aggregate-demand falls from AD to AD’ in the diagram below, the price-level also shifts from 100 to a lower level(P2). Equilibrium(E) moves from E1 to E2.

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