Question

1. Draw the MP curve, below it draw the IS curve and below it draw a graph with inflation on the vertical axis, output on the horizontal axis, but do not yet plot a curve.

2. To plot the AD curve:

a. pick an inflation rate and draw a dotted horizontal line at that rate.

b. Given the rate of inflation you picked use the monetary policy curve to show at what level the Fed would target the interest rate. c. Given the interest rate use the IS curve to find the level of output at that interest rate.

d. Draw a dotted horizontal line down from that level of output to the bottom graph.

e. Mark the point where the two dotted lines intersect, this is a point on the AD curve.

3. Pick a lower inflation rate and repeat the steps for question 2 to find a second point on the AD curve, and then connect the dots and extend both ends to show the AD curve.

4. Add a LRAS curve.

5. Add a SRAS curve drawn so that the economy is in long-run equilibrium.

6. Suppose that businesses become less confident about future economic conditions. Show the short run effects of this change. 7. Show how the economy moves to the long run assuming that there are no further policy changes so the economy self corrects. 8. Explain the logic for any shifts of the curve(s) you made on your diagram for question 7.

9. If the Fed wanted to raise the inflation rate from its new long run level, would they automatically tighten, automatically ease, autonomously tighten, or autonomously ease.