Assume the same situation as in Question 2. After the shock, the government wants to act. The President asks for advice from two different groups of economists: Freshwaters and NewKeynesians. a) Freshwater economists are often advocates of the Real Business Cycle theory. In this theory, prices are flexible. According to this group, would an expansionist monetary policy be effective in recovering the economy? Explain with words. (You do not need to provide graphs here.) b) New-Keynesians believe that prices are fixed in the short-run. Use graphs of the NewKeynesian model with sticky prices to show the effect of an expansionist monetary policy, i.e., a decline in the target real interest rate. Would a New-Keynesian economist agree that monetary policy helps the economy to recover? Explain with words.

Rubric: Assume that the economy is initially in equilibrium. Draw all the four graphs utilized in the lecture videos to represent the New-Keynesian model. Make sure to label the axes (3 points). First, show how the expansionist monetary policy takes place in the money market (2 points). Then, show the effect on the output market. Does output increase or decrease? (2 points). How is the change in output accommodated in the labor market? What happens with employment and wages? (2 points). Would a New-Keynesian economist agree that monetary policy helps the economy to recover? Yes or no? (1 point). Briefly explain why, based on the graphs. (2 points).