Question

Central bank can keep either the money supply or interest rate constant. Under which case, will the fiscal policy have the strongest effect on the output and why? Explain using a diagram.

(7)

Answer 1

Keeping money supply at a constant rate is better than constant interest rate because increases the rate of increase to meet cyclinal needs.The constant rate follows a cyclical fiscal policy and expand the money supply at a constant rate , the equivalent to the growth rate of the real gross domestic product.

Constant money supply results to lower intrest rates eventually and therefore it the most prefferd