3. Suppose an econometric model based on past data predicts a small decrease in domestic investment when the Bank of Canada increases the overnight interest rate. Assume the Bank of Canada is considering an increase in the overnight interest rate target to fight inflation and promote a low inflation environment that will encourage investment and economic growth.

a. Discuss the implications of the econometric model’s predictions if individuals interpret the increase in the overnight interest rate target as a sign that the Bank will keep inflation at low levels in the long run.

b. What would be Lucas’s critique of this model?