The Challenges of Monetary Policy CHAPTER 25 The Challenges of Monetary Policy

The Goals of Monetary Policy Long Run Sustainable Economic Growth determined by the growth and productivity of labor and capital Short Run Full Employment Achieving these goals in the short run helps to achieve maximum sustainable economic growth in the long run Stable Prices Satisfactory External Balance compatible with full employment and stable prices

Steady Noninflationary Growth Price Level Real GDP (in Billions) 1.10 1.05 1.00 $4,000 $4,120 $4,244 C I D B A AD AD' A'' LRAS LRAS' LRAS''

An Unexpected Increase in Aggregate Demand with No Fed Response* LRAS Price Level SRAS' C SRAS 1.10 1.05 1.00 B A AD' AD $1,500 $1,700 Real GDP (in Billions) *This exhibit is an abbreviated version of Exhibit 24-8.

Possible Policy Maker Response to an Unexpected Increase in Aggregate Demand Price Level LRAS SRAS AD AD' A B Real GDP

Demand-Induced Recession Price Level LRAS SRAS AD AD' A Real GDP (in Billions) 1.00 .95 .90 SRAS' B C

An Adverse Supply Shock as a Cause of Cost-Push Inflation LRAS Price Level SRAS' C SRAS B A AD' AD Real GDP