Policy Improvements by Using the Feds Objective Function and the Philips Curve - Coursework Example

The government should maintain price stability by stimulating aggregate demand when there is unemployment and recession but constrain it when there is inflation. Fiscal stimulus and increase in aggregate demand stabilizes prices and increase the effectiveness of monetary policies through increasing demand for labor and government spending, leading to business growth and economic stimulus. It also leads to a lower unemployment rate and thus an increase in income per capita, which raises living standards.

Therefore, the curve emphasizes the tradeoff between unemployment and the inflation rate. (Meade, & Thornton, 2011). The curve can hence be used to figure out the optimal level of unemployment that gives the desired inflation rate.The objective function can determine the effective and appropriate monetary policy that will lead to the achievement of targeting economic goals depending on their effect on inflation and output levels. The Function describes the tradeoff between the output gap and the inflation gap and the economy’s responsiveness to deviations of output levels and the inflation rates from their ideals.

The weight attached to the inflation rate in the objective function will represent the responsiveness of the economy to the changes in inflation. The function summarizes the total cost to the economy whenever there is an output gap or inflation gap. The output gap occurs whenever the real output of the economy differs from the potential production of the economy while the inflation gap exists whenever there is a deviation of the inflation rate from the ideal inflation rate (Boivin, & Giannoni, 2006).

In such situations, the economy bears costs directly and indirectly in the form of underutilization of resources in the case where the output level is below the potential economy and the usage of resources at an unsustainable rate in the case where production is higher than the ideal.