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Duong Vo Intro Fed Questions Money, Banking, and Central Banks - problems to help understand central banks and monetary policy 1) The Federal Open Market Committee of the Federal Reserve Bank (the Fed or FOMC) conducts monetary policy with the goal of maintaining stable, full employment and stable inflation rates. Suppose the economy begins at the Fed's target inflation rate and target unemployment rate (below in AD/AS model), A. When construction spending decreases and the unemployment rate rises, what effect does this have on the inflation rate? Why? Show on the AD/AS model and the Phillips Curve. b. The Fed reacts. What can the Fed do to fight the effects of the decrease in construction spending? How does the Fed hope its action will affect unemployment and inflation? Show and explain. What must banks do to maximize the impact of the Fed's policy? Price Level Inflation LRAS SRAS LRPC p Phillips Curve AD SHPC of RGDP 5% Unemployment d. Can the Fed fight the recession alone without the President and Congress borrowing money and spending? Explain. Monetary Policy and Aggregate Demand 2) The Federal Open Market Committee (FOMC) of the Federal Reserve (the Fed) conducts monetary policy. a) When the Federal Reserve lowers interest rates, does investment spending fall, rise, or stay the same? i) Whyr if) Explain the relationship between monetary policy and Investment spending. b) Generallyhen the unemployment rate falls, does the inflation rate fall, rise, or stay the same? Why? Notes on attitudes toward inflation Q: What is an inflation dove? A: An economist who is worried less about inflation and more about GDP growth and keeping people employed. Q: What is an inflation hawk? A: An economist who believes that inflation is much more important than employment as a focus for the central bank, like the Federal Reserve Bank and the FOMC in the US. c) Assume that the inflation rate and the unemployment rate are initially both at the Fed's target or goal rates. Then the price of oil rises due to supply restrictions. () What does the Fed do when oil prices rise if the FOMC members are inflation hawks? ii) What does it do if the FOMC members are inflation doves? d) Draw a Phillips Curve graph at the right which shows the effects of the rise in oil prices and the Fed's reaction. Label the initial position "A", the hawk position "H", and the dove position "D"