Macroeconomics 5th Edition by Olivier Blanchard

Exercise 5

Consider the economy described in Problem 6.
a. Suppose the economy starts with
Now suppose there is an increase in
Assume that Y n does not change. Using the diagram you drew in Problem 6(b), show how the increase in
affects the MP relation. (Again, remember that a 7 1.) What happens to output and the real interest rate in the short run
b. Without attempting to model the dynamics of inflation explicitly, assume that inflation and expected inflation will increase over time if Y Y n , and that they will decrease over time if Y Y n. Given the effect on output you found in part (a), will
tend to return to the target rate of inflation,
over time
c. Redo part (a), but assuming this time that a 1. How does the increase in
affect the MP relation when a 1 What happens to output and the real interest rate in the short run
d. Again assume that inflation and expected inflation will increase over time if Y Yn , and that they will decrease over time if Y Yn. Given the effect on output you found in part (c), will
tend to return to the target rate of inflation,
over time Is it sensible for the parameter a (in the interest rate rule) to have values less than 1