You are responsible for economic policymaking in your country. Your desire is to eliminate inflation, keeping prices absolutely stable at
P = 100, no matter what happens to output. Currently, the economy is in equilibrium at Q = 3200 (where Q = potential GDP) and P = 100.
You can use monetary and fiscal policies to affect aggregate demand but you cannot affect aggregate supply in the short run.
a. How would you respond to the following scenarios?
b. Explain and illustrate how each of these events would affect aggregate demand, aggregate supply, and prices, then explain how you would respond with economic policies. Please show illustrations showing the movement of the AS and AD curves.
1. A surprise increase in investment spending
2. Catastrophic floods that cause a sharp food price increase
3. A productivity decline that reduces potential output
4. A deep depression in East Asia that causes a sharp decrease in net exports to the United States.