Which monetary policy would be destabilizing?

• A. I only
• B. II only
• C. I, II, and III
• D. III only

Answer: (A)

The key idea is that monetary policy can stabilize or destabilize the economy depending on whether it dampens or amplifies fluctuations in inflation and output. A policy is destabilizing if it pushes the economy further away from its desired path—for example, expanding the money supply or cutting interest rates when inflation is high or the economy is near full capacity, which raises price pressures and booms the economy further, making swings larger and expectations harder to anchor.

If only the first policy would do that, it means the first option describes a move that would amplify instability rather than dampen it. The other policies would, in contrast, help keep inflation and real activity closer to targets: they either tighten when overheating, loosen when there’s slack, or otherwise act in a way that reduces fluctuations and preserves credibility. So the first policy is the one that would be destabilizing, while the others are stabilizing.