In this module you learned how changes in monetary impact interest rates, prices and GDP.  In this assignment you will explore how the Federal Reserve can use monetary policy to impact inflation and economic output using the aggregate demand and aggregate supply framework.  Answer the following questions:

1. Suppose the US economy is experiencing inflation higher than desired but has relatively high output and low unemployment.  What monetary policy actions may the Fed take to reduce inflation?
2. Using the aggregate demand and aggregate supply framework, what happens to inflation and output when the Federal Reserve uses a contractionary monetary policy.
3. If the Fed is successful in reducing inflation, what will the likely impact be on the unemployment rate in the US?
4. If banks are currently holding excess reserves will all the Fed’s tools be equally effective?  Examine how each of the Fed’s three policy tools will affect the money supply when banks hold excess reserves.
5. In the 1970s the US experienced a significant period of “stagflation,” when both inflation and unemployment were high.  Using the aggregate demand and aggregate supply framework, explain why monetary policy can be ineffective at solving both the problems of high unemployment and high inflation when the two occur together.

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