Chapter 26: Problem 15

The monetarist transmission mechanism through which monetary policy affects the price level, real GDP, and employment depends on the a. indirect impact of changes on the interest rate. b. indirect impact of changes on profit expectations. c. direct impact of changes in fiscal policy on aggregate demand. d. direct impact of changes in the money supply on aggregate demand.

Short Answer

Expert verified

The short answer is: The monetarist transmission mechanism through which monetary policy affects the price level, real GDP, and employment depends on the direct impact of changes in the money supply on aggregate demand (choice d).

Step by step solution

Understand Monetarist Transmission Mechanism

Monetarist transmission mechanism is the process by which changes in the money supply can affect the overall economy, through variables such as price level, real GDP, and employment. It primarily emphasizes the role of monetary policy in controlling inflation and stabilizing the economy. Now, let's evaluate each of the given choices:

Choice A: Indirect impact of changes on the interest rate

The monetarist transmission mechanism emphasizes the role of changes in the money supply rather than changes in the interest rate. Although interest rates play a part, the focus is on changes in the money supply. Therefore, this choice is not the most accurate.

Choice B: Indirect impact of changes on profit expectations

While changes in profit expectations may result from the monetarist transmission mechanism, it is not a primary component or direct influence on price level, real GDP, or employment. This option is also not the best description of the mechanism.

Choice C: Direct impact of changes in fiscal policy on aggregate demand

Fiscal policy refers to government policies on taxes and government spending, which is entirely different from monetary policy. The monetarist transmission mechanism focuses on monetary policy and changes in the money supply, not fiscal policy. Hence, this choice is incorrect.

Choice D: Direct impact of changes in the money supply on aggregate demand

This choice correctly emphasizes the role of changes in the money supply, which is the primary focus of the monetarist transmission mechanism. An increase in the money supply can lead to higher aggregate demand, causing price levels to rise, an increase in real GDP, and potentially higher employment levels. Conversely, a decrease in the money supply can lead to lower aggregate demand, reduced price levels, and a decrease in real GDP and employment levels. Based on our analysis, the correct choice is: d. Direct impact of changes in the money supply on aggregate demand.

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