Work It Out Chapter 15(30)

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Because of the economic slowdown associated with the 2007–2009 recession, the Federal Open Market Committee of the Federal Reserve, between September 18, 2007 and December 16, 2008, lowered the federal funds rate in a series of steps from a high of 5.25% to a rate between zero and 0.25%. The idea was to provide a boost to the economy by increasing aggregate demand.

Use the liquidity preference model to explain how the Federal Open Market Committee lowers the interest rate in the short run.

The Federal Open Market Committee purchases bonds causing the money demand line to shift down.

The Federal Open Market Committee purchases bonds causing the money supply line to shift right.

The Federal Open Market Committee purchases bonds causing the money supply line to shift left.

The Federal Open Market Committee sells bonds causing the money supply line to shift right.

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Why does the reduction in the interest rate causes aggregate demand to increase in the short run?

A fall in the interest rate leads to a decrease in investment and consumer spending. This decrease in investment and consumer spending leads to a rightward shift of the aggregate demand curve.

A fall in the interest rate leads to a rise in investment and consumer spending. This increase in investment and consumer spending leads to a rightward shift of the aggregate demand curve.

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A fall in the interest rate leads to a rise in investment and consumer spending. This increase in investment and consumer spending leads to a rightward shift of the aggregate demand curve. For further review see section, “Monetary Policy and Aggregate Demand.”

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Suppose that in 2013 the economy is at potential output but that this is somehow overlooked by the Fed, which continues its monetary expansion. What happens to the price level and output in the long run?

The price level will increase and output will decrease.

Output will increase but the price level will remain constant.

The price level will increase but output will remain constant.

Both the price level and output will increase.

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My Slide ActivitiesChapter 15(30)

Question 1 of 3

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