Table of Contents
- 1 What happens when the IS curve is vertical?
- 2 What are the implications of IS curves?
- 3 When LM curve is vertical monetary policy?
- 4 Is curve slopes downward because?
- 5 When the LM curve is vertical?
- 6 Why does LM curve slope upward?
- 7 How do fiscal and monetary policy affect the level of output?
- 8 How can monetary policy be used to increase the IS curve?
What happens when the IS curve is vertical?
If investment demand is independent of the interest rate, then the IS curve is vertical. Aggregate demand sets the national income and product, regardless of the interest rate. National product adjusts to put the economy on the IS curve in the short run (figure 3).
What are the implications of IS curves?
The IS curve depicts the set of all levels of interest rates and output (GDP) at which total investment (I) equals total saving (S). At lower interest rates, investment is higher, which translates into more total output (GDP), so the IS curve slopes downward and to the right.
How does fiscal policy affect the IS curve?
Fiscal Policy Increased government spending or a tax cut is assumed to be financed by borrowing. The money supply does not change, so the LM curve does not change. Expansionary fiscal policy shifts the IS curve to the right (figure 3). The multiplier effect on consumption raises the national income and product.
What is the impact of monetary and fiscal policy on is LM model?
IS-LM model can be used to show the effect of expansionary and tight monetary policies. A change in money supply causes a shift in the LM curve; expansion in money supply shifts it to the right and decrease in money supply shifts it to the left.
When LM curve is vertical monetary policy?
Fiscal policy is completely ineffective, if the LM curve is vertical. It means that the demand for money is perfectly interest inelastic. This is shown in Figure 10 where the level of income remains unchanged.
Is curve slopes downward because?
The IS curve is downward sloping because as the interest rate falls, investment increases, thus increasing output. The LM curve describes equilibrium in the market for money.
Why the money supply curve is vertical?
The money supply curve is vertical because the Fed sets the amount of money available without consideration for the value of money. A change in money demand or a change in the money supply will yield a change in the value of money and in the price level.
What factors determine the steepness of the IS and LM curves?
The steepness or flatness of the LM curve depends on interest elasticity of demand for money. If the demand for money is interest inelastic the LM curve will be fairly steep. If it is fairly elastic, the LM curve will be relatively flat. The higher the value of c1, the steeper the LM curve.
When the LM curve is vertical?
b) If money demand does not depend on the interest rate, the LM curve is vertical. The LM curve represents the combinations of income and the interest rate at which the money market is in equilibrium. If money demand does not depend on the interest rate, then we can write the LM equation as M/P = L(Y).
Why does LM curve slope upward?
The LM curve is upward sloping because higher income results in higher demand for money, thus resulting in higher interest rates. The intersection of the IS curve with the LM curve shows the equilibrium interest rate and price level.
Is fiscal policy effective if the LM curve is vertical?
Fiscal policy is completely ineffective, if the LM curve is vertical. It means that the demand for money is perfectly interest inelastic. This is shown in Figure 10 where the level of income remains unchanged.
Why is vertical monetary policy completely ineffective?
If the IS curve is vertical monetary policy is completely ineffective because investment expenditure is completely interest inelastic.
How do fiscal and monetary policy affect the level of output?
Both monetary and fiscal policy can be used to expand demand and raise the equilibrium level of output. Except in two extreme situations — the liquidity trap case (the horizontal LM curve) and the classical case (the vertical LM curve) monetary and fiscal policies can be used to affect the level of output.
How can monetary policy be used to increase the IS curve?
An expansionary monetary policy could be an ideal choice in such a sub-optimal situation. By increasing the money supply it is possible to shift the LM curve to the right, reduce r and raise aggregate demand and enable the economy to reach point E”. Alternatively by using an expansionary fiscal policy it is possible to shift the IS curve to