An article on Reuters discussing a Reserve Bank of India
(RBI) monetary policy meeting in early 2017, stated that
the RBI “changed its stance to ‘neutral’ from ‘accommodative,’ saying it would monitor inflation.” The article noted
that “the decision to hold [the interest rate that is the RBI’s
equivalent of the federal funds rate constant] is a risk, as
private forecasts are more pessimistic [about economic
growth] than the RBI.”
a. Draw a dynamic aggregate demand and aggregate
supply graph to show where the RBI expected real
GDP to be relative to potential GDP in 2017 if it kept
the target interest unchanged. Assume, for simplicity, that real GDP in India in 2016 equaled potential GDP. Briefly explain what is happening in your
graph.
b. In the same graph, show where the private forecasters who are more pessimistic about growth see the
economy in 2017. Briefly explain what is happening in
your graph.
Source: Suvashree Dey Choudhury and Rafael Nam, “Indian Central
Bank Keeps Policy Rate on Hold, With Eyes on Inflation,” reuters.
com, February 8, 2017.