What are the potential problems that can result if central bankers set a target of a zero rate of inflation?
What will be an ideal response?
A zero inflation target has a few problems. First, trying to hit a zero target risks deflation occurring. Deflation has a lot of problems including making debts more difficult to repay which can lead to an increase in loan defaults and an adverse impact on the health of banks. Deflation also increases information problems for lenders so it will be more difficult for borrowers to obtain loans. In addition, a zero rate of inflation would require a firm to actually cut nominal wage if it needs to reduce the real wage. If the inflation rate is positive, as long as nominal wages are constant or are increasing at a lower rate than inflation, real wages will fall. Finally, most economists agree that inflation in most indexes is overstated, so a target rate for inflation of zero is likely deflation.
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A decrease in the expected inflation rate will
A) increase the inflation rate. B) shift the short-run Phillips curve to the left. C) increase the unemployment rate. D) shift the short-run Phillips curve to the right.
Which is not a determinant of demand?
a. The cost of inputs in production b. Future price expectations c. Income d. The prices of related goods
The Board of Governors of the Federal Reserve System can increase commercial bank reserves by:
a. Increasing the reserve ratio b. Decreasing the prime interest rate c. Increasing the discount rate d. Buying government securities in the open market
If the theory behind an economic model fits the data poorly, you would probably want to
A. restate the research question. B. use the theory to predict what would happen if the economic setting or economic policies change. C. start from scratch with a new model. D. enrich the model with additional assumptions.