Question

There are three main reasons why monetary policy doesn’t always work. Match each reason with its explanation.

1. The long run is different from the short run.
2. People adjust their expectations.
3. People don’t act as the Fed hopes.

a. The Fed can create conditions meant to encourage people to, for example, borrow more money. But if people are fearful of going into debt when their employment situation is uncertain, they may not respond to the Fed’s incentives.
b. Although an expanded money supply can briefly stimulate economic growth, eventually the economy will return to the same level of productivity, just at higher prices for goods and wages.
c. Fed actions are most effective when they come as a surprise. When people have figured out in advance what the Fed is going to do, the Fed’s actions don’t have as much impact.

Answer 1

3. People don’t act as the Fed hopes.

a. The Fed can create conditions meant to encourage people to, for example, borrow more money. But if people are fearful of going into debt when their employment situation is uncertain, they may not respond to the Fed’s incentives.

• people make heir personal decisions based on what they expect to happen in heir future

1. The long run is different from the short run.

b. Although an expanded money supply can briefly stimulate economic growth, eventually the economy will return to the same level of productivity, just at higher prices for goods and wages.

• equilibrium is the key word regarding the long run

2. People adjust their expectations.

c. Fed actions are most effective when they come as a surprise. When people have figured out in advance what the Fed is going to do, the Fed’s actions don’t have as much impact.

• People's expectations can result in the failure of economic policies. For example, if households expect higher inflation, they might take loans or accelerate their purchases.