Please thoroughly explain answer to these questions using explanation/graphs/charts as necessary.
The target inflation is 2% when the economy is producing at potential output, unemployment is 5.5%. Suppose realized unemployment is 32% and inflation is -10%.
a) Use the model of aggregate demand/supply to demonstrate graphically the economic circumstances. Label all axes, and indicate the short run equilibrium. What might have changed to move the economy from the long run equilibrium?
B. Explain how the economy would self-correct. Show this adjustment on a new graph. What would be the rate of inflation (relative to (a)) in the long run?
C. How could the government use macroeconomic stabilization policy to shorten the business cycle? Explain and show this with a third graph. What would inflation be in the long-run (relative to (a)) in this scenario?
D. In this case, what sorts of policies are likely to be most effective.