Question

Suppose two countries have identical aggregate demand curves and potential levels of output, and $\gamma$is the same in both countries. Assume that in 2019 , both countries are hit with the same negative supply shock. Given the table of values below for inflation in each country, what can you say, if anything, about the credibility of each country's central bank? Explain your answer.

Short answer

The provided inflation data for nations A and B show that aftershock inflation in country B has risen significantly faster than inflation in country A.

Step-by-step solution

Step 1. Concept of credibility 

The term "credibility" refers to one's belief in another. It is the level of confidence that one individual or institution has in the other. When using debt or credit to finance a project, credibility is essential.

Step 2. Explanation

It can be seen from the supplied data for inflation in countries A and B that aftershock inflation in country B has climbed substantially faster than inflation in country A. Higher inflation indicates a larger shift in the aggregate supply curve, implying that the public expects higher inflation in the future, implying that the government in country B lacks respectability. As a result of the lower inflation aftershock in country A, the government and policymakers in country A have more credibility than those in country B.

As a result, in certain instances, country A has more credibility whereas country B has less.