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- Discuss the pros and cons of central banks setting policy based on rules as opposed to setting policy based upon the discretion of policymakers at each policy meeting.
- Determine the impact on the economy if the central bank in the U.S. used inflation targeting. Explain your rationale.
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Explanation & Answer
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In monetary Policy, discretion is important in offsetting output fluctuations whereas monetarists suggest a tight, fixed rule to ensure price stability.
The effects of central bank using inflation targeting are as follows;
- Restricted ability of the central bank to respond to financial crises or unforeseen events;
- Potentially poor outcomes in employment, exchange rate and other macroeconomic variables beside inflation
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