Short Run Phillips Curve Inflation Scenario: In the late 1970's and early 1980's the U.S. was facing rapidly rising inflation which was mostly caused by expansionary economic policies.The government increased spending on the Vietnam Conflict and social "safety net" programs while the Federal Reserve maintained low interest rates.In 1975, the U.S. economy was at full employment, however inflation was much higher than the 2-3% inflation rate the Federal Reserve likes to target.This is represented by Point B on the graph.

-Explain how both Fiscal Policy and Monetary Policy could be utilized simultaneously to reduce inflation to 3%.Be sure to clearly differentiate monetary from fiscal policy and be specifically identify the "tools" each would use. (e.g. how would tax rates, government spending, reserve requirement, open market operations etc. need to change.)

-Explain the trade-offs associated with the dis-inflationary policies.Be sure to explain why the trade-offs exists using your knowledge of Aggregate Demand.

Short-Run Phillips Curve U.S. inflationary problems from 1975-1982* 12% A Inflation 9% B Rate 3% C 0% D 2.5% 5% 10% 15% SRPC Unemployment Rate *Graph depicts similar, but not exact data from the U.S. inflationary problems from 1975-1982