Question

By late summer of 2010, the target federal funds rate was between zero and 0.25%. At the same time, "animal spirits" were dormant and there was excess capacity in most industries. That is, businesses were in no mood to build new plant and equipment if they were not using their already existent capital. Interest rates were at or near zero and yet investment demand remained quite low. The unemployment rate was 9.6% in August 2010. These conditions suggest that monetary policy is likely to be a much more effective tool to promote expansion than fiscal policy. This statement is O A. false, because fiscal policy is always more effective in a recessionary case. O B. false, because expansionary monetary policy lowers interest rates, but rates were already nearly zero. O C. true, because monetary policy is always more effective in a recessionary case. OD. true, because expansionary monetary policy raises interest rates, and higher rates were needed for lenders to want to lend.

Answer 1

Option B is correct

Monetary policy is not effective under zero lower bound because the interest rates are already near zero and businesses are dormant due to which there is no incentive to invest. In such a scenario monetary policy will have to to look for different unconventional methods such as quantitative easing and it will be less effective than fiscal expansion.