Imagine that your economist colleagues working at the Bank of England have contacted to ask for your economic expertise and advice. After the initial shock of pandemic, the UK economy is experiencing another set ofeconomic challenges: shortages in fuel leading to price rises in fuel; shortages in transportworkers due to the consequences of Brexit; and large disruptions to supply chains that arepreventing the transportation of many essential products.

The Financial Times recently reported: "The UK's rate of inflation jumped to 10.1 per cent in July, the first time it has registered a double-digit annual increase in more than four decades. Consumer price inflation, driven by higher food prices, rose from 9.4 per cent in June to its highest level since February 1982." (Source: Financial Times, 2022, 'UK inflation rate rises to 40-year high of 10.1%' https://www.ft.com/content/2fb6f361-a7bb-4b98- 8100-6847b5df79b4)

Australia has recently signed on to a new trade deal with the UK, and the UK is one of the largest sources of foreign investment for the Australian economy. This means it is in Australia's interest for the UK economy to strengthen. visually illustrate the impact of these supply-side shocks on the UK economy using an AD-AS diagram. Your colleague has made a start on the diagram (see next page) but is missing a lot of labels and essential information. For simplicity, assume that the UK economy was initially at Y*.

a) The Bank of England is trying to figure out the most appropriate monetary policy response in this situation. Faced with these negative supply-side economic shocks, what 'doubly problematic' macroeconomic concern do you need to alert them to?

b) Your colleagues at the Bank of England inform you that they are concerned about unemployment, but even more concerned about inflation. Based on this information, what monetary policy prescription would you recommend?

c) Building on the diagram that you have already drawn showing the impact of the supply-side shock, now illustrate (on the same diagram) what would happen to the UK economyif the Bank of England adopts your policy advice. Use the bullet points to explain each step. Be sure to show the final effect on Output and Price Level, relative to your starting equilibrium.