Suppose country A has a central bank with full credibility, and country B has a central bank with no credibility. Determine which country is most likely affected by each of the following situations:

The countries will be effected in following way in two situations:

The people will believe more about the fiscal policy of country A. The country B will be more effected as the output of central bank is less stable as compared to the country A.

Explanation:

The belief of people in the fiscal policies of country A is greater as they have credible central bank as compared to country B. The country B will have low performance as compared to country A due to fact that the country B has not credibility in its central bank.

Answer: The answer is country B

Explanation:

Monetary policy : This is the economic policy which regulates the level of liquidity in the economy in order to achieve some desire policy objectives. The main objectives of monetary policy is to maintain full employment and also to maintain a reasonable stable internal price level that is to keep inflation in check, it is also used to stimulate economic growth and thereby increasing the national income in order to raise the standard of living of the people.

The monetary policy is also used to maintain stability in the external value of the country's currency. It is also used to ensure a favourable balance of payment. The central bank is the apex bank of a country which has the responsibility of monetary policy and use of monetary policy instruments such as open market operation, bank rate, use of directives, reserve requirements and bank supervision to regulate the economy.

The central bank with full credibility is that central bank in which people have trust in the ability of the central bank to achieve its policy objectives such as the control of inflation, determination of interest rate, ensure employment and ensures a favourable balance of payment. In addition, the market must also have trust in the ability of the central bank to maintain price stability as well as the ability of such a central bank to solve inflation without having a negative effect on employment.

The central bank with no credibility is that central bank in which people do not have trust in the ability of such central bank to control inflation, determine interest rate, ensure employment, as well as ensure a favourable balance of payment.