In the late 1990s and early 2000s, inflation was actually negative in Japan (look back at Figure 13.19). This question asks you to explore a change in policy to achieve a higher inflation rate.
Consider an economy that begins with output at potential and an inflation rate of , so the economy begins in steady state. A new chair of the central bank decides to raise the long-run inflation target to ' (greater than the original ). Show how the economy responds over time, using the AS/AD framework. Comment on your results.

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FIGURE 13.19 Inflation in the OECD Percent 25 20 U.K 15 France/Germany taly Spain 10 U.S. Japan 1960 19651970 197510 195 99 1995 200 2005 20t0 Year