Question

Assignment Score: Give Up 100/400 Resources Hint Check Answer Question 2 of 4 Suppose the Fed reduces the money supply by 5 percent. Assume the velocity of money (V) is constant a. What happens to the aggregate demand (AD) curve? The AD curve shifts b. What happens to output and the price level in the short run and long run? Give precise numerical answers. In the short run, the price level decreases by percent. c. In the short run, output decreases by percent. d. In the long run, output will ultimately decrease by percent. Question 2 of 4 > c. In the short run, output decreases by percent. d. In the long run, output will ultimately decrease by percent. e. In the long run, the price level will decrease by percent. f. Consider your answers to the above questions. What happens to unemployment in the short run and in the long run, according to Okun's law? Again, give a precise numerical answer In the short run, unemployment increases by percent. g. In the long run, unemployment increases by percent. about us terms of use careers privaoy policy contact us help 000 DII DD

Answer 1

a) If Fed reduces the money supply when velocity of money is kept constant, aggregate demand curve shifts downwards. This is because Money supply * velocity of money = Nominal output i.e., MV=PY and a decrease in money supply (when velocity of money is fixed) will decrease nominal output and thereby aggregate demand.

b) In the short-run, with decrease in money supply when velocity of money is constant, price level does not changes. As a result, change in price level = 0 percent.

c) In the short-run, with decrease in money supply when velocity of money is constant, output decreases. The decrease in output is equal to the decrease in money supply i.e, 5 percent.

d) In the long run, output level reaches to the full employment level. As a result, net change in output = 0 percent.

e) In the long-run, prices are flexible. Hence, with decrease in money supply by 5 percent, output remaining the same, price level will decrease by 5 percent.

f) From Okun's law, change in Output = Negative of twice of change in unemployment i.e, $\Delta$Y/Y = - 2 ($\Delta$U/U)

or, -5 = -2 ($\Delta$U/U)

or, $\Delta$U/U = 2.5 percent

Thus, with decrease in money supply by 5 percent, unemployment increases by 2.5 percent.

g) In the long run, output is at its full employment level. Hence, there is no change in unemployment i.e, 0 percent.