Answer to Question #67053 in Microeconomics for Manish

Question

Write short notes on the following.
a) Ineffectiveness of fiscal policy under flexible exchange rate
b) Nominal rigidity in wage rate and prices

Answer 1

a) A fiscal policy policy under flexible exchange rates has no power to change output in the short run. However when the Central bank uses monetary policy to directly alter money supply, it proves to be an effective tool to change income in the short run under flexible exchange rates.
b) Nominal rigidity describes a situation in which the nominal price is resistant to change. Complete nominal rigidity occurs when a price is fixed in nominal terms for a relevant period of time. Partial nominal rigidity occurs when a price may vary in nominal terms, but not as much as it would if perfectly flexible.