Figure 5.8: Tightening Monetary Policy to Address a Negative Supply Shock

Complexity of Implementing Monetary Policy After a Supply Shock

An economy experiences a sudden, sustained increase in global energy prices, causing production costs to rise and pushing inflation well above the central bank's target. The central bank announces it will raise its policy interest rate to combat this inflation. For this policy to be effective in cooling the economy and reducing inflationary pressure, which of the following must be true?

Central Bank Policy Response to a Supply Shock

An economy is hit by a negative supply shock, leading to rising inflation. Arrange the following events to show the correct causal sequence of a central bank's successful policy response to stabilize inflation.

Economic Consequences of Anti-Inflationary Monetary Policy

Monetary Policy and its Economic Trade-offs

Following a negative supply shock that increases expected inflation by 3%, a central bank's decision to raise its nominal policy interest rate by 3% will be sufficient to increase the real cost of borrowing and thereby reduce aggregate demand.

An economy is experiencing rising prices due to a sudden increase in the cost of key production inputs. Match each element of the central bank's typical response to this situation with its correct description.

A central bank is responding to a negative supply shock that has caused expected inflation to increase by 4 percentage points. To ensure the real interest rate rises and thereby dampens aggregate demand, the central bank must increase its nominal policy rate by more than ____ percentage points.

An economy experiences a negative supply shock, causing expected inflation to rise by 4 percentage points. The central bank responds by increasing its nominal policy interest rate by 3 percentage points. Which of the following is the most likely immediate consequence of this policy action?

Evaluating a Central Bank's Inflation Response