2. Why does contractionary monetary policy decrease output? Describe the stages that link monetary policy to output. This is known as the transmission mechanism. It starts with the Fed raising interest rates. The fed sells bonds and forces banks to make fewer loans which shifts the Ms curve to the left. It reduces the amount of reserves in the banking system. When the fed sells bonds, it lowers the prices of bonds and due to the inverse relationship with bonds when P decreases the interest rate increases. The increase of interest rates reduces borrowing, investment, and consumption spending. The higher borrowing costs have a detrimental influence on asset prices, triggering falls and reducing consumer confidence and spending. Changes in interest rates affect the exchange rate, making exports more expensive and imports cheaper, resulting in lower net exports. These factors cumulatively reduce aggregate demand, resulting in decreased output. 3. Is your answer to 2 the same if you can't assume that a change in short-term rates results in a change in long-term rates? Explain