1) The document discusses the IS-LM model, which depicts macroeconomic equilibrium in the goods (or product) market and money market.
2) Equilibrium in the product market (IS curve) occurs when planned savings equals planned investment. Equilibrium in the money market (LM curve) occurs when the supply and demand for money are equal.
3) The IS-LM model shows how fiscal and monetary policies can shift the IS and LM curves to impact output and interest rates.
The document discusses the LM curve, which shows equilibrium in the money market based on Keynesian liquidity preference theory. The LM curve relates different levels of national income (NY) to interest rates. It slopes upward to the right, showing that interest rates increase as NY increases due to a rise in transaction demand for money. The position and slope of the LM curve depends on factors like money supply, liquidity preference, and the elasticity of demand for money.
The document discusses the Keynesian multiplier theory and the concept of the multiplier. It explains that the multiplier captures the cumulative effect of a change in investment on national income through induced consumption. The value of the multiplier depends on the marginal propensity to consume (MPC) and is determined as 1/(1-MPC). The document provides an example of the multiplier process showing how an initial investment leads to increasing rounds of consumption and income. It also discusses some assumptions and limitations of the multiplier model.
The document discusses factors that determine the money supply and the money multiplier. It defines the monetary base (MB) as currency in circulation plus reserves, and M1 as currency plus checkable deposits. The money multiplier relates these, with M1 equal to the multiplier times MB. The multiplier depends on the currency ratio, reserve ratio, and excess reserves ratio. Changes in these ratios, such as due to bank panics, can impact the money supply by altering the multiplier. The Fed has more control over MB than M1 due to additional influencing factors.
Hypothesis of secular deterioration of terms of tradeRitika Katoch
The document summarizes the Prebisch-Singer thesis, which argues that terms of trade tend to deteriorate against primary commodities and in favor of manufactured goods over time. It presents the key assumptions of the thesis, including that income elasticity of demand is greater for manufactured goods than primary products. As a result, as incomes rise in developed countries, demand shifts away from primary commodities exported by developing countries towards manufactured goods produced in developed nations. This leads to a long-term decline in terms of trade for developing country exports.
The document summarizes the relative income hypothesis proposed by Dusenberry in 1949. The key points are:
1) Dusenberry argued that consumption depends more on a person's relative income position compared to others in their community, rather than their absolute income level. People will consume more if they live in wealthier communities to maintain their standard of living.
2) In the short run, the average propensity to consume is greater than the marginal propensity to consume and the relationship between income and consumption is not proportional. In the long run, consumption increases proportionally with income and the average propensity to consume equals the marginal propensity to consume.
3) Dusenberry also believed consumption
Consumption function and investment function chapter 2Nayan Vaghela
Consumption function and investment function chapter 2 SYBcom, Investment Function, Marginal efficiency of capital, marginal propensity to consume, Psychological law of consumption
This document discusses the IS curve, which shows the relationship between interest rates and national income in Keynesian economics. It explains that the IS curve slopes downward, as lower interest rates lead to higher investment and thus higher national income. The document outlines how Keynes, Hicks, Hansen, Lerner and Johnson developed the idea of the IS curve to show the interaction between the real economy and money markets. It also discusses factors that determine the position and slope of the IS curve, such as autonomous spending, interest rate elasticity of investment, and the multiplier.
The document discusses the LM curve, which shows equilibrium in the money market based on Keynesian liquidity preference theory. The LM curve relates different levels of national income (NY) to interest rates. It slopes upward to the right, showing that interest rates increase as NY increases due to a rise in transaction demand for money. The position and slope of the LM curve depends on factors like money supply, liquidity preference, and the elasticity of demand for money.
The document discusses the Keynesian multiplier theory and the concept of the multiplier. It explains that the multiplier captures the cumulative effect of a change in investment on national income through induced consumption. The value of the multiplier depends on the marginal propensity to consume (MPC) and is determined as 1/(1-MPC). The document provides an example of the multiplier process showing how an initial investment leads to increasing rounds of consumption and income. It also discusses some assumptions and limitations of the multiplier model.
The document discusses factors that determine the money supply and the money multiplier. It defines the monetary base (MB) as currency in circulation plus reserves, and M1 as currency plus checkable deposits. The money multiplier relates these, with M1 equal to the multiplier times MB. The multiplier depends on the currency ratio, reserve ratio, and excess reserves ratio. Changes in these ratios, such as due to bank panics, can impact the money supply by altering the multiplier. The Fed has more control over MB than M1 due to additional influencing factors.
Hypothesis of secular deterioration of terms of tradeRitika Katoch
The document summarizes the Prebisch-Singer thesis, which argues that terms of trade tend to deteriorate against primary commodities and in favor of manufactured goods over time. It presents the key assumptions of the thesis, including that income elasticity of demand is greater for manufactured goods than primary products. As a result, as incomes rise in developed countries, demand shifts away from primary commodities exported by developing countries towards manufactured goods produced in developed nations. This leads to a long-term decline in terms of trade for developing country exports.
The document summarizes the relative income hypothesis proposed by Dusenberry in 1949. The key points are:
1) Dusenberry argued that consumption depends more on a person's relative income position compared to others in their community, rather than their absolute income level. People will consume more if they live in wealthier communities to maintain their standard of living.
2) In the short run, the average propensity to consume is greater than the marginal propensity to consume and the relationship between income and consumption is not proportional. In the long run, consumption increases proportionally with income and the average propensity to consume equals the marginal propensity to consume.
3) Dusenberry also believed consumption
Consumption function and investment function chapter 2Nayan Vaghela
Consumption function and investment function chapter 2 SYBcom, Investment Function, Marginal efficiency of capital, marginal propensity to consume, Psychological law of consumption
This document discusses the IS curve, which shows the relationship between interest rates and national income in Keynesian economics. It explains that the IS curve slopes downward, as lower interest rates lead to higher investment and thus higher national income. The document outlines how Keynes, Hicks, Hansen, Lerner and Johnson developed the idea of the IS curve to show the interaction between the real economy and money markets. It also discusses factors that determine the position and slope of the IS curve, such as autonomous spending, interest rate elasticity of investment, and the multiplier.
Meeting 3 - Rybczynski theorem (International Economics)Albina Gaisina
The document discusses several economic concepts:
1) The Rybczynski theorem explains that if a country's supply of one factor increases, it will produce more of the good that intensively uses that factor and less of the other good.
2) Dutch disease refers to an economic phenomenon where resource discovery leads to decline of other sectors through currency appreciation and a shift in economic activity.
3) The resource curse or paradox of plenty suggests that countries with an abundance of natural resources tend to have less economic growth and worse development outcomes than countries with fewer natural resources, due to issues like overdependence on commodity exports and weak institutions.
Monetary policy controls the supply of money in a country through tools like interest rates and money supply targets. The goals are usually stable prices and low unemployment. There are two types of monetary policy - expansionary increases money supply to boost a slowing economy, while contractionary decreases supply to curb inflation by raising rates. Key indicators like inflation, interest rates, cash reserve ratios that the Reserve Bank of India monitors and changes to impact money supply.
The document summarizes the quantity theory of money and the Cambridge cash-balance approach. The quantity theory states that changes in the money supply will directly impact the price level, as long as other factors remain constant. It presents Fisher's equation of exchange and assumptions of the theory. The Cambridge approach focuses on the demand for money determining prices, and presents equations from Marshall, Pigou, Robertson, and Keynes relating money supply, income, and demand for cash balances to price levels. Criticisms of both theories are outlined.
The document discusses the Laffer Curve, which suggests that tax revenues can decrease if tax rates are raised above a certain level due to reduced economic activity. It outlines the history of the curve, including how economist Arthur Laffer illustrated the concept using a napkin. The basic diagram shows that tax revenues are lowest at 0% and 100% tax rates, and peak at an unspecified optimal rate. While tax cuts could in theory increase growth and revenues, economists disagree on where higher tax rates actually reduce incentives. Most studies suggest the optimal tax rate is around 70%, though it may vary by country. The document concludes the Laffer Curve is a valid economic concept, but tax rates in most Western nations are already below where it would significantly impact
The Major reason for the people’s demand for money is that it is needed in any economy in which almost every person and firm sells goods and services for money and in turn uses money to buy the goods and services offered by others. Functionally this amount of money used as a medium of exchange. Classical theory explained the demand for money as essentially a demand resulting from this need for money as medium of exchange.
In Keynesian theory, money becomes much more than a medium of exchange, much more than a medium of exchange, much more than a device for meeting transactions in the marketplace. People also demand money for speculative purposes and as security against unforeseen needs for cash reserves. The break down of the demand for money into transactions and precautionary and speculative demands plays a vital part in the theory of Keynes.
This chapter discusses the relationship between money, inflation, and prices according to the quantity theory of money. It introduces key concepts such as the money supply, monetary policy, the quantity equation, velocity of money, and how the money supply and inflation are connected. The quantity theory predicts a direct relationship between the growth of the money supply and the inflation rate in the long run.
Don Patinkin criticized the neoclassical assumptions of homogeneity and dichotomization. He proposed the real balance effect to reconcile goods and money markets. The real balance effect posits that changes in the price level affect real purchasing power, which impacts demand for goods. When prices rise, real balances and goods demand fall, pushing prices back down. This feedback loop between prices, real balances, and goods demand is represented using the IS-LM model, where a fall in prices shifts the LM curve right, raising output and employment until full employment is reached. Patinkin argues this real balance effect denies the homogeneity assumption and integrates goods and money markets.
The Baumol model describes money demand as a tradeoff between liquidity and interest rate returns. It assumes consumers can keep income as cash or in savings accounts. Cash earns no interest while savings accounts pay interest i, the opportunity cost of holding cash. Consumers minimize costs by choosing the optimal number of trips N to the bank to withdraw cash. Their average money holdings is Y/2N. The Baumol-Tobin money demand function shows real money demand depends positively on income and withdrawal costs, and negatively on the interest rate.
Cash balance approach of quantity theory of moneyJarin Aishy
The document discusses the cash balance approach to the quantity theory of money. It was developed by four Cambridge economists as an alternative to earlier theories. The cash balance approach uses equations to model the demand for real cash balances based on factors like income and total deposits. It focuses on modeling optimal cash levels rather than velocity of money. The approach has advantages like being more complete and applicable to different circumstances but also limitations like neglecting interest rates, savings/investment effects, and non-constant variables.
Monetary policy aims to control money supply, interest rates, and achieve economic growth. The objectives of monetary policy are economic growth, full employment, price stability, neutrality of money, and exchange rate stability. Monetary policy tools include expansionary policy which increases money supply and lowers interest rates, and contractionary policy which decreases money supply and raises interest rates. Instruments of monetary policy include quantitative measures like open market operations and changes in reserve requirements, and qualitative measures like moral suasion and publicity.
This document discusses the product exhaustion theorem, which states that when factors of production are paid their marginal products, their payments will exactly equal total product. It provides an overview of Euler's theorem, the assumptions of the theorem, and criticisms of the theory. Clark's product exhaustion theorem is also explained, which uses diagrams to show how total product is exhausted between payments to labor and capital under conditions of perfect competition.
This document discusses different methods of measuring national income:
1) Production method measures the total value added by all producing units. It avoids double counting by excluding intermediate goods.
2) Income method measures total factor incomes (wages, rent, interest, profit). It equals the sum of compensation of employees, operating surplus, and mixed income.
3) Expenditure method measures total final expenditures including household consumption, government spending, investment and net exports. This equals gross domestic product.
This document provides an outline and explanation of IS-LM analysis and how it can be used to derive the aggregate demand curve. It begins by explaining why IS-LM analysis was developed as a synthesis of classical and Keynesian thought. It then defines the IS curve as representing goods market equilibrium and the LM curve as representing money market equilibrium. It shows how the intersection of the IS and LM curves determines the equilibrium interest rate and level of output. It further explains how shifts in the IS and LM curves affect this equilibrium and can be used to trace the aggregate demand curve. Fiscal and monetary policy shifts are also discussed through their impacts on the IS and LM curves.
This document discusses two types of investment: autonomous investment and induced investment. Autonomous investment refers to public investments like infrastructure that do not change with income levels. Induced investment is private investment that is affected by changes in income, consumption, and aggregate demand - as income rises, more investment is made in capital goods to produce more consumer goods. Both types of investment are illustrated with diagrams showing their relationship to income levels.
This document provides an overview of Keynesian theory of income determination. It discusses some key concepts:
1) According to Keynes, the equilibrium level of national income and employment is determined by the interaction of aggregate demand (C+I) and aggregate supply (C+S). This equilibrium is called the effective demand point.
2) Effective demand represents the total spending in the economy that matches aggregate supply. It is the level of income and employment where there is no tendency to increase or decrease production.
3) The effective demand point may be below full employment, indicating underemployment. Government spending can increase aggregate demand and move the economy to a new equilibrium with higher income and full employment.
This document discusses the balanced budget multiplier concept. It explains that an equal increase in government taxes and spending can result in a net increase in GDP. This is known as the balanced budget multiplier. The document provides an example where government spending increases by $50 million and taxes also increase by $50 million. This leads to an increase in GDP of $50 million, demonstrating that the balanced budget multiplier is equal to 1. So an increase in government spending that is fully financed by taxes will increase GDP by the same amount.
This presentation provides an overview of the goods market equilibrium and money market equilibrium using the IS-LM model. It defines the equilibrium conditions for the goods market as savings equaling investment, and for the money market as money supply equaling money demand. It derives the downward sloping IS curve and upward sloping LM curve, and explains how their intersection shows the overall equilibrium in the goods and money markets. The document then discusses how fiscal and monetary policies can shift the IS and LM curves and discusses the 2001 US recession within this framework.
Inflation can occur due to an excess of money supply or demand-pull factors that create a gap between effective demand and available supply. There are different types of inflation such as headline inflation, hyperinflation, stagflation, and suppressed inflation. In India, inflation is primarily measured using the Wholesale Price Index (WPI) and Consumer Price Index (CPI), with the WPI historically undergoing changes to its base year and commodities covered. High inflation impacts consumers by reducing the real value of incomes and impacts producers by increasing costs of production.
This document discusses equilibrium in the product (goods) market and money market using IS-LM analysis. It provides explanations of:
- Product market equilibrium where supply and demand for goods are equal. This is represented by the IS curve which shows combinations of income and interest rates that equate saving and investment.
- Money market equilibrium where demand and supply of money are equal. This is represented by the upward-sloping LM curve which shows combinations of income and interest rates that equate money demand and supply.
- General market equilibrium is achieved where the IS and LM curves intersect, simultaneously achieving equilibrium in both the goods market and money market. This point determines the equilibrium levels of income and interest rate.
1. The document discusses goods market equilibrium using the Keynesian cross model. It shows how equilibrium occurs at the point where aggregate demand equals real output (Y).
2. It then derives the IS curve, showing the combinations of interest rates (i) and output (Y) that maintain equilibrium in both the goods market and foreign exchange market. The IS curve slopes downward, as lower interest rates increase investment and the trade balance via currency depreciation.
3. Similarly, the LM curve is derived from money market equilibrium, showing the combinations of i and Y that balance money demand and supply. The LM curve slopes upward, as higher output increases money demand and requires higher interest rates to maintain equilibrium.
Meeting 3 - Rybczynski theorem (International Economics)Albina Gaisina
The document discusses several economic concepts:
1) The Rybczynski theorem explains that if a country's supply of one factor increases, it will produce more of the good that intensively uses that factor and less of the other good.
2) Dutch disease refers to an economic phenomenon where resource discovery leads to decline of other sectors through currency appreciation and a shift in economic activity.
3) The resource curse or paradox of plenty suggests that countries with an abundance of natural resources tend to have less economic growth and worse development outcomes than countries with fewer natural resources, due to issues like overdependence on commodity exports and weak institutions.
Monetary policy controls the supply of money in a country through tools like interest rates and money supply targets. The goals are usually stable prices and low unemployment. There are two types of monetary policy - expansionary increases money supply to boost a slowing economy, while contractionary decreases supply to curb inflation by raising rates. Key indicators like inflation, interest rates, cash reserve ratios that the Reserve Bank of India monitors and changes to impact money supply.
The document summarizes the quantity theory of money and the Cambridge cash-balance approach. The quantity theory states that changes in the money supply will directly impact the price level, as long as other factors remain constant. It presents Fisher's equation of exchange and assumptions of the theory. The Cambridge approach focuses on the demand for money determining prices, and presents equations from Marshall, Pigou, Robertson, and Keynes relating money supply, income, and demand for cash balances to price levels. Criticisms of both theories are outlined.
The document discusses the Laffer Curve, which suggests that tax revenues can decrease if tax rates are raised above a certain level due to reduced economic activity. It outlines the history of the curve, including how economist Arthur Laffer illustrated the concept using a napkin. The basic diagram shows that tax revenues are lowest at 0% and 100% tax rates, and peak at an unspecified optimal rate. While tax cuts could in theory increase growth and revenues, economists disagree on where higher tax rates actually reduce incentives. Most studies suggest the optimal tax rate is around 70%, though it may vary by country. The document concludes the Laffer Curve is a valid economic concept, but tax rates in most Western nations are already below where it would significantly impact
The Major reason for the people’s demand for money is that it is needed in any economy in which almost every person and firm sells goods and services for money and in turn uses money to buy the goods and services offered by others. Functionally this amount of money used as a medium of exchange. Classical theory explained the demand for money as essentially a demand resulting from this need for money as medium of exchange.
In Keynesian theory, money becomes much more than a medium of exchange, much more than a medium of exchange, much more than a device for meeting transactions in the marketplace. People also demand money for speculative purposes and as security against unforeseen needs for cash reserves. The break down of the demand for money into transactions and precautionary and speculative demands plays a vital part in the theory of Keynes.
This chapter discusses the relationship between money, inflation, and prices according to the quantity theory of money. It introduces key concepts such as the money supply, monetary policy, the quantity equation, velocity of money, and how the money supply and inflation are connected. The quantity theory predicts a direct relationship between the growth of the money supply and the inflation rate in the long run.
Don Patinkin criticized the neoclassical assumptions of homogeneity and dichotomization. He proposed the real balance effect to reconcile goods and money markets. The real balance effect posits that changes in the price level affect real purchasing power, which impacts demand for goods. When prices rise, real balances and goods demand fall, pushing prices back down. This feedback loop between prices, real balances, and goods demand is represented using the IS-LM model, where a fall in prices shifts the LM curve right, raising output and employment until full employment is reached. Patinkin argues this real balance effect denies the homogeneity assumption and integrates goods and money markets.
The Baumol model describes money demand as a tradeoff between liquidity and interest rate returns. It assumes consumers can keep income as cash or in savings accounts. Cash earns no interest while savings accounts pay interest i, the opportunity cost of holding cash. Consumers minimize costs by choosing the optimal number of trips N to the bank to withdraw cash. Their average money holdings is Y/2N. The Baumol-Tobin money demand function shows real money demand depends positively on income and withdrawal costs, and negatively on the interest rate.
Cash balance approach of quantity theory of moneyJarin Aishy
The document discusses the cash balance approach to the quantity theory of money. It was developed by four Cambridge economists as an alternative to earlier theories. The cash balance approach uses equations to model the demand for real cash balances based on factors like income and total deposits. It focuses on modeling optimal cash levels rather than velocity of money. The approach has advantages like being more complete and applicable to different circumstances but also limitations like neglecting interest rates, savings/investment effects, and non-constant variables.
Monetary policy aims to control money supply, interest rates, and achieve economic growth. The objectives of monetary policy are economic growth, full employment, price stability, neutrality of money, and exchange rate stability. Monetary policy tools include expansionary policy which increases money supply and lowers interest rates, and contractionary policy which decreases money supply and raises interest rates. Instruments of monetary policy include quantitative measures like open market operations and changes in reserve requirements, and qualitative measures like moral suasion and publicity.
This document discusses the product exhaustion theorem, which states that when factors of production are paid their marginal products, their payments will exactly equal total product. It provides an overview of Euler's theorem, the assumptions of the theorem, and criticisms of the theory. Clark's product exhaustion theorem is also explained, which uses diagrams to show how total product is exhausted between payments to labor and capital under conditions of perfect competition.
This document discusses different methods of measuring national income:
1) Production method measures the total value added by all producing units. It avoids double counting by excluding intermediate goods.
2) Income method measures total factor incomes (wages, rent, interest, profit). It equals the sum of compensation of employees, operating surplus, and mixed income.
3) Expenditure method measures total final expenditures including household consumption, government spending, investment and net exports. This equals gross domestic product.
This document provides an outline and explanation of IS-LM analysis and how it can be used to derive the aggregate demand curve. It begins by explaining why IS-LM analysis was developed as a synthesis of classical and Keynesian thought. It then defines the IS curve as representing goods market equilibrium and the LM curve as representing money market equilibrium. It shows how the intersection of the IS and LM curves determines the equilibrium interest rate and level of output. It further explains how shifts in the IS and LM curves affect this equilibrium and can be used to trace the aggregate demand curve. Fiscal and monetary policy shifts are also discussed through their impacts on the IS and LM curves.
This document discusses two types of investment: autonomous investment and induced investment. Autonomous investment refers to public investments like infrastructure that do not change with income levels. Induced investment is private investment that is affected by changes in income, consumption, and aggregate demand - as income rises, more investment is made in capital goods to produce more consumer goods. Both types of investment are illustrated with diagrams showing their relationship to income levels.
This document provides an overview of Keynesian theory of income determination. It discusses some key concepts:
1) According to Keynes, the equilibrium level of national income and employment is determined by the interaction of aggregate demand (C+I) and aggregate supply (C+S). This equilibrium is called the effective demand point.
2) Effective demand represents the total spending in the economy that matches aggregate supply. It is the level of income and employment where there is no tendency to increase or decrease production.
3) The effective demand point may be below full employment, indicating underemployment. Government spending can increase aggregate demand and move the economy to a new equilibrium with higher income and full employment.
This document discusses the balanced budget multiplier concept. It explains that an equal increase in government taxes and spending can result in a net increase in GDP. This is known as the balanced budget multiplier. The document provides an example where government spending increases by $50 million and taxes also increase by $50 million. This leads to an increase in GDP of $50 million, demonstrating that the balanced budget multiplier is equal to 1. So an increase in government spending that is fully financed by taxes will increase GDP by the same amount.
This presentation provides an overview of the goods market equilibrium and money market equilibrium using the IS-LM model. It defines the equilibrium conditions for the goods market as savings equaling investment, and for the money market as money supply equaling money demand. It derives the downward sloping IS curve and upward sloping LM curve, and explains how their intersection shows the overall equilibrium in the goods and money markets. The document then discusses how fiscal and monetary policies can shift the IS and LM curves and discusses the 2001 US recession within this framework.
Inflation can occur due to an excess of money supply or demand-pull factors that create a gap between effective demand and available supply. There are different types of inflation such as headline inflation, hyperinflation, stagflation, and suppressed inflation. In India, inflation is primarily measured using the Wholesale Price Index (WPI) and Consumer Price Index (CPI), with the WPI historically undergoing changes to its base year and commodities covered. High inflation impacts consumers by reducing the real value of incomes and impacts producers by increasing costs of production.
This document discusses equilibrium in the product (goods) market and money market using IS-LM analysis. It provides explanations of:
- Product market equilibrium where supply and demand for goods are equal. This is represented by the IS curve which shows combinations of income and interest rates that equate saving and investment.
- Money market equilibrium where demand and supply of money are equal. This is represented by the upward-sloping LM curve which shows combinations of income and interest rates that equate money demand and supply.
- General market equilibrium is achieved where the IS and LM curves intersect, simultaneously achieving equilibrium in both the goods market and money market. This point determines the equilibrium levels of income and interest rate.
1. The document discusses goods market equilibrium using the Keynesian cross model. It shows how equilibrium occurs at the point where aggregate demand equals real output (Y).
2. It then derives the IS curve, showing the combinations of interest rates (i) and output (Y) that maintain equilibrium in both the goods market and foreign exchange market. The IS curve slopes downward, as lower interest rates increase investment and the trade balance via currency depreciation.
3. Similarly, the LM curve is derived from money market equilibrium, showing the combinations of i and Y that balance money demand and supply. The LM curve slopes upward, as higher output increases money demand and requires higher interest rates to maintain equilibrium.
The document provides an overview of the IS-LM model, which explains how the goods market and money market reach equilibrium in an economy. It defines the IS curve as the locus of interest rate-income combinations where investment equals savings. The LM curve similarly shows combinations where money demand equals supply. The intersection of the IS and LM curves indicates the general equilibrium point where both markets clear simultaneously. The summary analyzes how shifts in fiscal or monetary policy can cause the IS and/or LM curves to shift, changing the equilibrium interest rate and level of income in the economy.
The document outlines key concepts related to the goods market, IS curve, money market, and LM curve. It discusses how:
- The IS curve shows combinations of interest rates and income where saving equals investment in the goods market.
- The LM curve shows combinations of interest rates and income where demand for money equals supply of money in the money market.
- Equilibrium in both markets simultaneously determines the equilibrium interest rate and income on the IS-LM model. Fiscal and monetary policies can shift the curves and impact equilibrium.
This document provides an overview of the IS-LM-BP model for analyzing macroeconomic equilibrium in an open economy. It defines the key components as:
1) The IS curve, which represents goods market equilibrium as a function of interest rates and income.
2) The LM curve, which represents money market equilibrium based on money demand and supply.
3) The BP curve, which depicts the combinations of interest rates and income that achieve balance of payments equilibrium.
Global macroeconomic equilibrium occurs at the point where the IS, LM, and BP curves intersect, indicating simultaneous equilibrium in the goods, money, and balance of payments markets. The document derives each curve and explains how shifts in monetary or fiscal policy
This document provides an overview of the IS-LM model for macroeconomic equilibrium. It explains that:
1) The IS curve depicts the combinations of interest rates and output levels that achieve equilibrium in the goods market. It slopes downward because higher interest rates decrease investment and output.
2) The LM curve depicts the combinations of interest rates and output that achieve equilibrium in the money market. It slopes upward because higher output increases money demand, raising interest rates at a given money supply.
3) The intersection of the IS and LM curves indicates the general equilibrium interest rate and output level that simultaneously achieve equilibrium in both the goods and money markets. Shifts in autonomous spending, the money supply, or money demand cause the
This document provides an overview of economic policy under fixed exchange rates. It discusses Robert Mundell's influential Mundell-Fleming model, which shows how monetary and fiscal policy can be used to achieve internal and external balance. The model is presented graphically using IS, LM, and BP curves. An increase in government spending is used as an example of how these curves shift in response to fiscal policy under fixed exchange rates.
Balance of Payment, Exchange rate Determination, Internal and External Equili...Farhana Afroj
This document summarizes a presentation on the foreign sector and balance of payments. It includes:
- An overview of topics like the balance of payments, balance of payments and the LM curve, and balance of payments adjustment policies with fixed and flexible exchange rates.
- Descriptions of the components of the balance of payments including the current account (exports, imports, transfers) and capital account (financial flows).
- Explanations of balance of payments equilibrium curves and how they show combinations of interest rates and income that balance the current and capital accounts.
- Discussions of how monetary and fiscal policies can impact the balance of payments and how central banks intervene to maintain fixed exchange rates.
This chapter introduces the IS-LM model, which combines the Keynesian Cross model and the liquidity preference theory to determine equilibrium income and interest rates in the short run when prices are fixed. The IS curve shows all combinations of income and interest rates that result in goods market equilibrium based on the Keynesian Cross. The LM curve shows combinations that result in money market equilibrium based on liquidity preference theory. Where the IS and LM curves intersect indicates the short-run equilibrium levels of income and interest rates. Fiscal and monetary policies can shift the IS and LM curves to influence equilibrium.
General Equilibrium IS-LM Framework for Macroeconomic AnalysisKhemraj Subedi
The document summarizes the IS-LM model of macroeconomics. It explains that the IS curve represents equilibrium in the goods market where investment equals savings at different interest rate and income level combinations. It slopes downward to show that lower interest rates lead to higher investment and income. The LM curve represents equilibrium in the money market where money demand equals supply at different interest rate and income level combinations. It slopes upward as higher income increases money demand, requiring higher interest rates to equilibrate the money market. The IS and LM curves intersect to determine the general equilibrium interest rate and income level in the short run.
The document discusses the IS-LM model, which examines the interaction between the goods market and money market.
The IS curve represents combinations of interest rates and income where the goods market is in equilibrium. It slopes downward because lower interest rates stimulate more investment, increasing aggregate demand and income. The LM curve shows combinations where the money market clears, based on money demand and supply. It slopes upward as interest rates and income increase together.
The model can be used to determine equilibrium interest rates and income levels by finding the point where the IS and LM curves intersect. Shifts in autonomous spending like government consumption can change the position of the IS curve.
This document provides an overview of monetary policy tools and frameworks in Pakistan. It discusses the monetary policy tools used by the State Bank of Pakistan including monetary base, reserve requirements, discount window lending, and interest rates. It also explains key monetary policy frameworks like the money market, goods market equilibrium, money market equilibrium, and the ISLM model. The goals of monetary policy are outlined as price stability, high employment, economic growth, interest rate stability, financial market stability, and foreign exchange market stability. Key monetary policy concepts like the money market, goods market equilibrium, and liquidity trap are also summarized.
This lecture outline covers policy analysis using the IS-LM model, including monetary policy, fiscal policy, and their interaction. It discusses shocks to the model and the adjustment from the short-run to the long-run. Key topics include the effects of monetary and fiscal policy on output and interest rates, estimates of fiscal multipliers, and the derivation of the aggregate demand curve from the IS-LM model.
1. The document discusses the IS-LM model and how it can be used to analyze the effects of fiscal and monetary policy. It presents the IS and LM curves and how they represent equilibrium in the goods and money markets.
2. Fiscal policy like increases in government spending can shift the IS curve right, raising output and interest rates. Monetary policy like increases in the money supply can shift the LM curve down, lowering interest rates and raising output.
3. Shocks to aggregate demand are analyzed using the IS-LM model, and the model can also show the transition from short-run to long-run equilibrium when prices adjust over time.
The document provides an overview of the IS-LM model of aggregate demand. It explains that the IS curve models the goods market relationship between interest rates and income, while the LM curve models the money market relationship between interest rates and income. It also discusses the Keynesian cross diagram and how it can be used to analyze how changes in fiscal policy like government purchases or taxes will affect equilibrium income levels through multiplier effects. The document concludes by explaining that the intersection of the IS and LM curves determines the aggregate demand equilibrium for a given price level.
Prof. J.R. Hicks proved that the general equilibrium of an economy, including the interest rate, can be determined using the IS-LM curve analysis which synthesizes the classical IS curve analysis of the real sector and the Keynesian LM curve analysis of the monetary sector. The IS curve shows the relationship between interest rates and output/employment levels that achieve equilibrium in the goods market. The LM curve shows the relationship between interest rates and income levels that achieve equilibrium in the money market from the equality of money demand and supply. The intersection of the IS and LM curves indicates the general equilibrium interest rate and income level where both the goods market and money market are in equilibrium.
The document provides an overview of the IS-LM model, which is a macroeconomic model that shows the interaction between the goods market (IS curve) and money market (LM curve). The IS curve depicts combinations of interest rates and output where investment equals savings. The LM curve shows combinations where money supply equals money demand. The equilibrium point is where the two curves intersect, indicating balanced rates and output. The document discusses the development of the model, its graphical representation, assumptions, limitations, and how it can be used to analyze macroeconomic policy scenarios.
This document discusses the IS-LM model and its key components. It defines the IS curve as representing combinations of income and interest rates where saving and investment are equal, keeping aggregate demand and supply in equilibrium. The LM curve represents combinations where money demand and supply are equal.
The IS curve slopes downward, as lower interest rates stimulate more investment and demand, raising income. The LM curve slopes upward, as higher income increases money demand, requiring a higher interest rate to equate it with the fixed money supply.
The model shows macroeconomic equilibrium where the IS and LM curves intersect, with both goods and money markets clearing simultaneously. Shifts in autonomous spending, taxes, or money supply can cause the curves to shift,
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Equilibrium of product and money market
1. Equilibrium of Product and Money Market : The
IS-LM Model or Analysis
EQUILIBRUIM- POLICY EFFECTIVENESS
2. 2
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The General
Equilibrium of the
Economy
The Product Market
Or
The Real Sector
The Money Market
Or
The Monetary Sector
3. Product Market
The product Market is the marketplace
where final goods or services are sold
to businesses and the public sector.
For Example : the market for airline
travel, smart-phones, new cars, etc.
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4. 4
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• Equilibrium of the product market is achieved when the product market is cleared, i.e.,
according to Keynes, planned saving is equal to planned investment.
S=I
or
Y=C+I
• Is developing the IS model, investment is considered as a function of rate of interest,
consumption and saving as functions of income.
Investment Function : I= I (r)
Consumption Function : C= C (Y)
Saving Function : S= S (Y)
Equilibrium in the Product Market
5. 5
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• Equilibrium in the product market is achieved when :-
S (Y)= I (r)
• However, this relationship may be shown graphically as
follows.
6. 6
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• Re-translation of Simple Keynesian model at equilibrium
(Investment = Saving).
• A plot of equilibrium output for various interest rates within the
market for goods and services.
IS Curve
7. 7
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• Because it’s assumed that the consumption
and investment relations are linear,
ZZ is, in general, a curve rather than a
line.
• ZZ is drawn flatter than a 45 degree
line because it’s assumed that an
increase in output leads to a less than
one for one increase in demand.
Determining Output
NOTE : Two characteristics of ZZ
ZZ
DEMAND
45
o
Demand
Z
Output Y
Y
Z
8. 8
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DERIVING THE IS CURVE :
(a) An increase in the interest rate decrease the
demand for goods at any level of output,
leading to a decrease in the equilibrium level of
output.
(b) Equilibrium in the goods market implies that
an increase in the interest rate leads to
a decrease in output.
Deriving the IS Curve
ZZ
ZZ
A
A 1
A 1
A
IS
Curve
45
o
Demand
Z
Output Y
Y
1
Y
9. 9
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Downward sloping
I increases = C decreases, I decreases = Y decreases
Increase/Decrease in autonomous expenditure will shift the IS
Curve Rightward/Leftward.
The steepness or flatness of the IS Curve describes the
elasticity or responsiveness of C and I to the nominal interest
rate.
Steep IS Curve : inelastic.
Flat IS Curve : elastic
Properties of IS Curve
10. 10
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• Money Market Equilibrium is achieved when the supply of
money and demand for money are equal.
Ms=Md
• Money Demand is made of two parts :-
Msp : Speculative Demand for Money
Mt : Transactionary Demand for Money
Md= Msp+Mt
Equilibrium in the Money Market
11. Money Market
11
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Money market basically refers to a
section of the financial market where
financial instruments with high liquidity
and short-term maturities are traded.
IS is used by many participants,
including companies, to raise funds by
selling commercial papers in the
market.
12. 12
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• Depicts equilibrium in the Money Market (L=M), as well as the
Bond Market (by Walras Law).
• A plot of the equilibrium interest rate for various levels of output
or income, within the money market for a given level of the
nominal money supply.
LM Curve
13. 13
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• An increase in income leads, at a given interest rate, to an
increase in the demand for money. Given the money supply,
this increase in the demand for money leads to an increase in
the equilibrium interest rate.
• Equilibrium in the financial markets implies that an increase in
income leads to an increase in the interest rate. The LM Curve
is therefore upward sloping.
Deriving the LM Curve
14. 14
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Deriving the LM Curve
LM Curve
A 1
A
Md 1
(Y1>Y)
Md (for Y)
A
i
Y
Y1
M/P
(Real) Money,
MP
Income Y
Interest
Rate
i
Interest
Rate
i
A1 i 1
i
15. 15
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• Upward sloping
Y increases = L increases = I increases
• Increase/Decrease in the real money supply shift the LM Curve
Rightward/Leftward.
• The steepness or flatness of the LM Curve describes the
elasticity or responsiveness of money demand (L) to the
nominal interest rate.
Steep LM Curve : inelastic.
Flat LM Curve : elastic.
Properties of LM Curve
16. 16
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The Equilibrium Curve
Equilibrium in Financial Market (LM)
Equilibrium in Product Market (IS)
A
i
Y
Interest
Rate
i
Output Y
17. 17
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• Fiscal contraction, refers to fiscal policy that reduces the
budget deficit.
• An increase in the deficit is called a fiscal expansion.
• Taxes affect the IS Curve, not the LM Curve.
• Monetary contraction, refers to a decrease in the money
supply.
• An increase in the money supply is called monetary expansion.
• Monetary policy does not affect the IS Curve, only the LM
Curve.
• For Example : An increase in the money supply shifts the LM
Curve down.
Fiscal and Monetary Policies
18. 18
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Shift of IS Shift of LM Movement in output Movement in
Interest Rate
Increase in taxes Left None Down Down
Decrease in taxes Right None Up Up
Increase in spending Right None Up Up
Decrease in spending Left None Down Down
Increase in money None Down Up Down
Decrease in money None Up Down Up
Effects of Fiscal and Monetary
Policy
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