Suppose we start in a situation where expected and actual inflation are equal to the inflation target of the central bank and production is at the natural level.

(a) Now assume that consumers become more pessimistic about future income. How will this affect the IS curve?

Suppose that, as a result of the pessimistic outlook, consumers also expect future inflation to be lower than the target. How will this affect the IS curve?

What should the central bank do in this situation?