Consider a closed economy described by the following set of equations: = (, , , ) + (, , ),

=, ()

= +

=,>0

Where represents cost-push shocks but has a mean of zero, and is the central bank's inflation target and is equal to some positive constant. Assume the economy is initially at the point = and = .

Using graphs and words, analyse the following shocks using the IS-Phillips Curve framework. What must the central bank do in each case to keep i) output and/ or ii) inflation constant?

A. Due to a new pipeline with a producing country, there is a sudden and unexpected permanent fall in the price of natural gas (the country at hand is an importing country). Assume inflation expectations are well-anchored so that = . (3 points)

B. Due to poor weather, there is a sudden and unexpected temporary increase in

the price of most primary agricultural products such as grains and vegetables.

Assume inflation expectations are adaptive such that = . (4 points) +1

C. Due to improvements in infrastructure, there is a permanent increase in the

natural level of production. Assume inflation expectations are well-anchored

so that = . (3 points) +1