What policy response would you recommend to fed

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Reference no: EM13801743

Suppose economy starts with GDP at potential, the real interest rate and marginal product of capital both equal to 3% ad a stable inflation rate of 2%. A MILD FINANCIAL VRISES HITSTHAT CREATES FINANCIAL FRICTION THERBY CREEATING A 2% GAP BETWEEN WHAT TH ECENTRAL bank intends the real rate of interest to be and what actually prevails in the marketplace.

(a) Analyze the effect of this shock in IS/MP diagram.

(b) What policy response would you recommend to fed? What would be the effect of those policy responses on the economy?

Reference no: EM13801743

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