Question

Evaluate the following statement: "In an important sense, the term policy irrelevance proposition is misleading because even if the rational expectations hypothesis is valid, economic policy actions can have significant effects on real $GDP$ and the unemployment rate."

Short answer

As a result,an unanticipated rise in the supply of money may affect changes in prices and real$GDP$ except in the short term, but these changes will not be seen in the long run.

Step-by-step solution

Step: 1 Introduction:

If the money supply is suddenly raised, the quantity demanded will move to the right. This rise in consumer spending will raise both the price level and actual GDP.Workers may seek greater pay in order to preserve their real earnings from falling as a result of price level changes, claiming that nominal wages have increased owing to changes in prices. The total short-run supply curve will move higher vertically as a result of this.

Step: 2 Graph:

The diagram as,

Step: 3 real GDP and the unemployment rate:

It is obvious from the following figure that there is still a growth in the price point as well as gross Domestic product. The shift from $SRA{S}_1$to $SRA{S}_2$denotes a shift in the quick aggregate supply curve as a result of this shift in the money supply. As a response, the economy shifts from equilibrium $A$to equilibrium $B$. This will be reflected in pricing adjustments. With a rise in the price, the equilibrium level will shift once more. The equilibrium point has now shifted from $B$to $C$. This adjustment lowers real $GDP$by role="math" localid="1651835869787" $\$0.3trillion$and raises the prices index from $110-122$.To summarise, an unanticipated rise in the supply of money may affect changes in prices and real$GDP$ except in the short term, but these changes will not be seen in the long run.