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1. Why is an explicit inflation target a bad policy? 2. MV=PQ If M grows, then...

1. Why is an explicit inflation target a bad policy?

2. MV=PQ If M grows, then what happens to each of V, P and Q?

3. Explain what happens to V, P and Q?

4. Keynes said in the short-run P can’t change. If V also can’t change then what happens to MV=PQ when M increases?

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Answer #1

ANSWER 1

Inflation targeting is an imperfect approach which holds true only if the certain conditions hold true and are not subject to frequent changes.

it treats all movements to the inflation rate in the same way and do not distinguish between inflation rate movements arising from aggregate demand (AD) shocks and aggregate supply (AS) shocks seperately.  

Another issue with inflation targeting is that it has "no memory." That is, if a central bank targets inflation and the economy actually undergoes several periods of deflation there is no making up the inflation shortfall once inflation returns to its target.

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