Author Question: Refer to Figure 12.1. Suppose the economy is initially at full employment with real GDP equal to ... (Read 55 times)

folubunmi · **on:** Jun 30, 2018

Refer to Figure 12.1. Suppose the economy is initially at full employment with real GDP equal to potential GDP, and the expected inflation rate equal to the actual inflation rate.

If the economy then experiences a negative demand shock, and the Fed responds to the results of the demand shock with an appropriate monetary policy, the Fed response will A) push the economy further down the Phillips curve, lowering the inflation rate further.
B) push the economy back up the Phillips curve, raising the inflation rate towards its full-employment level.
C) push the economy back down the Phillips curve, lowering the inflation rate towards its full-employment level.
D) push the economy further up the Phillips curve, lowering the inflation rate further.

Question 2

What is meant by the statement that investment projects are irreversible? How does the idea that investment projects are irreversible affect the volatility of investment in capital goods?

What will be an ideal response?

Sweetkitty24130 · **Reply #1 on:** Jun 30, 2018

Answer to Question 1

B

Answer to Question 2

By stating that investment projects are irreversible, this means that once an investment project is finished, it is hard for the firm to use the investment for another activity. Firms will therefore often take time to acquire useful information about the profitability of the project. This creates a trade-off between the benefit of committing to an investment project and receiving the profits from the project sooner and the benefit of waiting to acquire more information to be better able to pursue an investment project that may be better suited to the economic environment. The fact that investment projects are irreversible and can be delayed makes the growth rate of investment expenditures volatile.