Demand management – monetary policy Paper 1

IBDP Economics  SL  – Macroeconomics- Demand management – monetary policy- Paper 1- Exam Style Practice Questions

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Demand management – monetary policy- Paper 1

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Exam Style Question for Macroeconomics-Demand management - monetary policy Paper 1

Question

Evaluate the effectiveness of monetary policy in reducing an economy’s rate of unemployment.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, rate of unemployment
  • diagram to show AD shifting to the right as a result of expansionary monetary policy
  • explanation of how expansionary monetary policy may help to reduce cyclical (demand-deficient) unemployment in terms of the mechanisms by which lower interest rates increase AD via the effect on consumption, investment and/or net exports
  • examples of expansionary monetary policy being used in practice
  • synthesis or evaluation.

Question

Explain how expansionary monetary policy could be used to close a deflationary (recessionary) gap.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, expansionary monetary policy, deflationary gap
  • diagrams to show a deflationary gap and how it would be closed by a shift of AD to the right and/or increasing money supply that leads to decrease in the interest rates 
  • explanation that by increasing the money supply/decreasing the interest rate the central bank stimulates consumption, investment and/or net export, leading to an increase in AD and return of the real GDP to its potential level
  • examples of countries that have used expansionary monetary policy to close a deflationary gap.

Question

Evaluate the view that fiscal policy is the best way to reduce unemployment.

▶️Answer/Explanation

Answers may include:

  • definitions of fiscal policy, unemployment
  • diagram to show how fiscal policy leads to a fall in unemployment
  • explanation of how expansionary fiscal policy leads to a rise in AD and real GDP, leading to a fall in unemployment as more workers are needed in production
  • examples of where fiscal policy has been used to reduce unemployment
  • synthesis or evaluation.

Question

Using real-world examples, evaluate the effectiveness of monetary policy to achieve low inflation.

▶️Answer/Explanation

Answers may include:

  • Definition: inflation, monetary policy.
  • Explanation: that it is incremental, easily changed, flexible, fast to implement, does not burden the government’s budget. That there are limitations: it is less effective when business/consumer confidence is low; effectiveness may depend on the type of inflation.
  • Diagram: AD/AS diagram to illustrate contractionary monetary policy.
  • Synthesis (evaluate): strengths and limitations of monetary policy in achieving low inflation. Fiscal policy might be considered as an alternative, but the emphasis of the response should be on monetary policy.
  • Examples: real-world examples of where governments have attempted to lower inflation using monetary policy.

Question

Evaluate the effectiveness of monetary policy in reducing an economy’s rate of inflation.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, inflation
  • diagram to show AD shifting left as a result of contractionary monetary policy
  • explanation of how contractionary monetary policy may help to reduce demand-pull inflation in terms of the mechanisms by which higher interest rates reduce AD via the effect on consumption, investment and/or net exports 
  • examples of contractionary monetary policy being used in practice or examples of inflation targeting 
  • synthesis or evaluation.

Question

Evaluate the view that expansionary monetary policy is the most effective way to achieve economic growth.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, economic growth
  • diagram to show the effect of expansionary monetary policy on economic growth
  • explanation of expansionary monetary policy by reducing interest rates will increase consumption and investment, leading to a rise in aggregate demand and therefore economic growth
  • examples of the impact of expansionary monetary policy on economic growth
  • synthesis and evaluation.

Question

Evaluate the effectiveness of monetary policy in reducing an economy’s rate of unemployment.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, rate of unemployment
  • diagram to show AD shifting to the right as a result of expansionary monetary policy
  • explanation of how expansionary monetary policy may help to reduce cyclical (demand-deficient) unemployment in terms of the mechanisms by which lower interest rates increase AD via the effect on consumption, investment and/or net exports
  • examples of expansionary monetary policy being used in practice
  • synthesis or evaluation.

Question

Evaluate the effectiveness of monetary policy in reducing an economy’s rate of inflation.

▶️Answer/Explanation

Answers may include:

  • definitions of monetary policy, inflation
  • diagram to show AD shifting left as a result of contractionary monetary policy
  • explanation of how contractionary monetary policy may help to reduce demand-pull inflation in terms of the mechanisms by which higher interest rates reduce AD via the effect on consumption, investment and/or net exports 
  • examples of contractionary monetary policy being used in practice or examples of inflation targeting 
  • synthesis or evaluation.

 

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