Question

Inflation and unemployment

Suppose that the government believes the economy is not producing goods and services at its optimal level. In an attempt to stimulate the economy, the government increases the quantity of money in the economy by printing more money.


This monetary policy ____ the economy's demand for goods and services, leading to ____ product prices. In the short run, the change in prices induces firms to produce _____ goods and services. This, in turn, leads to a ____ level of unemployment.

In other words, the economy faces a trade-off between inflation and unemployment: Higher inflation leads to ____ unemployment.

Answer 1

The correct answer is: increases; an increase; more; lower; lower

Step-by-step explanation:

Suppose the government of an economy adopts an expansionary policy by printing more money. This will lead to an increase in the money supply. As the money supply increases, interest rates will be lower. There will be an increase in private consumption and investment expenditure.

People will demand more goods and services, this increase in demand will further cause an increase in the price of the product. At higher prices, firms will prefer to supply more. They will need more inputs to produce more. Consequently, the unemployment rate will fall.

This example shows that there is a trade-off between inflation and unemployment. Higher inflation means that unemployment will be lower.