The general price level is rising fast now. The current rate as high as 10% on an annual basis is unheard of over the last couple of decades. Still, the leadership of the Federal Reserve System thinks that the current increase in the total demand will abate soon while the economy continues to grow steadily even at a relatively slow rate. (The Santa examples are still relevant.) The majority of the economists in the United States think that it is not helpful to the economy to go back to the gold standard. Explain their reasoning. Focus on the ability of the Fed to help the economy to recover when it is in recession.
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Step 1: The rise in the general price level is due to an increase in the total demand in the economy, leading to a mismatch between supply and demand. Show more…
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In congressional testimony, former Federal Reserve Chairman Ben Bernanke said: $$\begin{array}{l}{\text { Another significant factor influencing }} \\ {\text { medium-term trends in inflation is the public's }} \\ {\text { expectations of inflation. These expectations }} \\ {\text { have an important bearing on whether transi- }} \\ {\text { tory influences on prices, such as changes in }} \\ {\text { energy costs, become embedded in wage and }} \\ {\text { price decisions and so leave a lasting imprint }} \\ {\text { on the rate of inflation. }}\end{array} $$ What did Bernanke mean when he said that the public's expectations of inflation could "become embedded in wage and price decisions"? What would be the effect on the short-run Phillips curve of the public coming to expect a higher inflation rate?
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