Assume a central bank follows a rule that requires it to take steps to keep the price level constant.If the price level fell because of a decrease in aggregate demand and an increase in aggregate supply that kept output unchanged,then
A)the central bank would have to raise interest rates which would decrease output.
B)the central bank would have to raise interest rates which would increase output.
C)the central bank would have to reduce interest rates which would decrease output.
D)the central bank would have to reduce interest rates which would increase output.

Question

Quizplus · Accepted Answer

If the price level fell while output remained unchanged, this would suggest that there is excess supply in the market, which could lead to a decrease in inflation. To keep the price level constant, the central bank would need to increase demand by reducing interest rates. This would increase aggregate demand and output, as consumers and businesses would have access to cheaper credit. Therefore, the correct answer is D, the central bank would have to reduce interest rates which would increase output.

Assume a Central Bank Follows a Rule That Requires It