Multiple Choice
When inflation is rising above the Federal Reserve’s target, which monetary policy action is most consistent with the Fed’s goal of slowing the economy to reduce inflation?
18. Monetary Policy
Goals of Monetary Policy
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The purpose of a contractionary monetary policy is to:
A
increase aggregate demand by expanding credit availability
B
lower unemployment by reducing interest rates
C
reduce inflation by decreasing the money supply
D
stimulate economic growth by increasing government spending
Verified step by step guidance1
Step 1: Understand the goal of contractionary monetary policy. It is primarily used to reduce inflation by decreasing the money supply in the economy.
Step 2: Recall that contractionary monetary policy typically involves actions such as increasing interest rates or selling government securities to reduce the amount of money circulating.
Step 3: Recognize that reducing the money supply leads to higher interest rates, which discourages borrowing and spending, thereby decreasing aggregate demand.
Step 4: Note that decreasing aggregate demand helps to control inflation by slowing down the economy and preventing prices from rising too quickly.
Step 5: Contrast contractionary monetary policy with expansionary policies, which aim to increase aggregate demand and stimulate growth, often by lowering interest rates or increasing the money supply.
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