Economics Assignment Paper

1. Use the following information to answer questions (a) through (c) below. All of your explanations should be in terms of our model.
As of October 2015, the CBO’s estimate of the equilibrium unemployment rate for the U.S. was 4.64%. In October 2015, the U.S. unemployment rate was 5.0%, while the annualized CPI inflation rate for October 2015 was 0.13%. The effective Federal Funds Rate (the Federal Reserve’s main nominal interest rate tool) was 0.12%. Suppose you were an economist working at the Federal Reserve (the Fed), preparing a forecast and policy recommendation for the Fed’s December 2015 meeting.
(a) How would you have characterized the level of U.S. GDP as of October 2015: above, below, or equal to its medium-run equilibrium value? How do you know?
(b) Assuming businesses and households had adaptive expectations, how would you have predicted the inflation rate to change in 2016: increase, decrease, or no change? Explain the economic reasoning behind your answer. The definition of adaptive expectations is not an answer to this question, though you must know what it means to answer the question; I am asking for your prediction based on the relevant equations in our model.
(c) Assume the Fed’s primary policy goal is to maintain an inflation rate of 2% over the medium run. Its only policy tool is control of the (real) interest rate.
Based on your analysis in parts (a) and (b), what would you have advocated for at the Fed’s December 2015 policy meeting: an increase in the interest rate, a decrease, or no change?
Explain precisely—in terms of our model—why your recommended policy was necessary and how it would have helped the Fed achieve its policy goal.
2. Draw a graph of the labor market that shows the state of the U.S. economy as of October 2015. Your graph should be consistent with your answers above.