Problem
Assume the economy is currently at full employment with an inflation rate of 2 percent. The government embarks on a major new expenditure program that increases aggregate expenditures (assume that fullemployment output and the natural rate of unemployment are unaffected).
(a) If the central bank's policy rule remains unchanged, what will be the short-run and long-run effects on output and inflation of this change in fiscal policy? What will be the long-run effects on the real interest rate at full employment?
(b) Suppose the central bank's policy rule adjusts to reflect the change in the full-employment real interest rate. Will this alter the short-run or long-run effects of the fiscal expansion?
The response should include a reference list. Double-space, using Times New Roman 12 pnt font, one-inch margins, and APA style of writing and citations.