Chapter 5 - Goods and Financial Markets: The IS-LM model

Question 1

Why is the LM horizontal?

Answer 1

CB chooses the interest rate i(bar). For different levels of Y money demand is different, but the CB adjusts the money supply so as to maintain the same interest rate

Question 2

decrease in i:

Answer 2

expansionary monetary policy or monetary expansion

–> tends to boost demand for investment

Question 3

increase in i:

Answer 3

contractionary monetary policy or monetary contraction

–> tends to reduce investment

Question 4

fiscal contraction/ fiscal consolidation

Answer 4

Decrease in G-T

Question 5

Fiscal expansion

Answer 5

Increase in G-T

Question 6

What do you understand by austerity?

Answer 6

Austerity is a political-economic term referring to policies that aim to reduce government budget deficits through spending cuts, tax increases, or a combination of both.

Question 7

deficit reduction in the short run

Answer 7

a) given private saving (S), a lower gov. deficit means higher 1
b) fiscal contraction lowers output and so S goes down by more than T-G increases
- -> so I decreases