Effect of Central Bank Inflation Target Rate on Inflation
This is a difficult question even for Level 2. But I think it is worth to think about and this will help you understand many important macro-economic concepts:
If a country’s is rapidly growing at a unsustainable rate, and the central decreases its target inflation rate, what will happen to the economy?
A) long-term rate of economic growth will increase.
B) expected rate of inflation is likely to decline.
C) inflation rate is likely to increase
I will choose B).
Target inflation rate is something set by the central bank. So it has nothing to do with the real growth rate. If the central bank decrease its goal (the target inflation rate), it has to implement policies to achieve that goal, e.g. reduces money supplies and increases interest rate. All these policies will cool down the economy. So, the expected rate of inflation is likely to decline…