If the inflation rate target is 2%, the current inflation rate is 1%, and the output gap is minus 2%, then according to the taylor rule, the nominal federal funds rate should be percent. a. five b. three c. zero d. four e. none of the above

E

Explanation:

According to the Taylor rule, the formula for finding nominal federal funds rate is given as

i = r* + pi + 0.5(pi - pi*) + 0.5(y - y*),

Where i is the nominal federal funds rate, r* is the real federal funds rate (taken as 2%), pi is the rate of inflation, pi* is the target inflation rate, y is the logarithm of real output and y* is the logarithm of potential output

Substituting values, we have;

i = 2 + 1 + 0.5(1-2) + 0.5(2)

i = 3.5%

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