Question

According to Lucas and​ Sargent, workers and firms have rational​ expectations, and therefore if the Fed pursues an expansionary monetary​ policy__________.
A. agents will cause an decrease in the natural rate of unemployment.
B. agents will cause an increase in the natural rate of unemployment.
C. agents will not change their expectations.
D. agents will immediately adjust their expectations of inflation up.

Answer 1

Answer:

D. agents will immediately adjust their expectations of inflation up.

Explanation:

Expansionary monetary​ policies are geared towards stimulating economic growth. The Fed can impose lower interest rates or purchase bonds and securities in open market operations as expansionary tools. Lowering interest rates encourages banks and other lending institutions to lend money to firms and households.  

Purchasing bonds and securities adds money to the banking system. The increased money will be loaned out to businesses and individuals. The availability of low-cost credit motivates firms to borrow and expands their business capacities. When households borrow with ease, it leads to an increase in consumption expenditure.  These actions result in too much money in circulation, which is inflation.