If monetary policymakers respond aggressively to current inflation above the target inflation rate, the:
A) monetary policy reaction curve would be flat.
B) dynamic aggregate demand curve would have a steep slope.
C) monetary policy reaction curve would have a positive and steep slope.
D) dynamic aggregate demand curve would shift rightward.

Question

Quizplus · Accepted Answer

If monetary policymakers respond aggressively to current inflation above the target inflation rate, it means they are increasing interest rates to reduce aggregate demand and lower inflation. This would result in a monetary policy reaction curve with a positive and steep (upward-sloping) slope, indicating that a larger increase in interest rates is required to achieve a given reduction in inflation. The dynamic aggregate demand curve would not be affected by this monetary policy action, so options B and D can be eliminated. Option A is incorrect because an upward-sloping monetary policy reaction curve suggests that higher levels of inflation require more aggressive policy action, which means the curve is not flat.

If Monetary Policymakers Respond Aggressively to Current Inflation Above the Target