Question

Fill in the blanks below. Possible options are given in the parentheses after each blank. If American households and firms expect that the economic conditions in the US will become worse in the near future, there will be a real impact on the US economy, in particular on the price level and real output level. However, the Federal Reserve could try to reduce the impact by _______ (buying, selling) bonds. This action will result in a ________ (higher, lower) level of money supply and a ________ (higher, lower) level of interest rate. The effect of this interest rate change is that there will be _______ (more, less) investment and _________ (increased, decreased) real GDP.

Answer 1

Expectation of worse economic condition means it is experiencing recession which expected to become worse in near future. The Fed tends to increase the money supply to induce investment, which bring increase in demand and lead to an increase in real GDP.

The Federal Reserve could try to reduce the impact by buying bonds. This action will result in a higher level of money supply and a lower level of interest rate. The effect of this interest rate change is that there will be more investment and increased real GDP.