State whether each of the following statement is TRUE, FALSE or UNCERTAIN. Provide a brief explanation and use diagrams where appropriate to support your answer. Your marks will depend entirely on the quality of the explanation: e.g. even if it is correct, putting “TRUE” will give you no marks unless you explain your answer.
(a) If the interest rate in the US is larger than the interest rate in UK then the dollar is expected to appreciate compared to the pound.
(b) Consider an economy with many monopolistically competitive firms. If those firms face “menu costs” in adjusting prices, then even under the rational expectation hypothesis, an expected change in money supply can affect the level of output in the short-run.
(c) Assume that there is inflation inertia in the Phillips curve augmented with expectations. If a government wants to keep the unemployment rate below the natural level inflation must accelerate over time.