Home » 1. Using the IS – LM framework, in which model would monetary policy be more effective (in terms of increasing the level of income)?

1. Using the IS – LM framework, in which model would monetary policy be more effective (in terms of increasing the level of income)?

  1. 2. Using the IS – LM framework, in which model would monetary policy produce larger income changes (per unit of monetary stimulus)? THINK IT THROUGH 
  2. A. Tx=Txo 
  3. B. Tx=To+tY t>0 

3. Assume the basic three sector model:

Y = C + I + G

Where Tx = Txo and I ≠ f ( Y

with MPC = 0.8

Also, assume the following IS and LM schedules

For the IS, at i = 10%, Y = 1000

and at i = 8%, Y = 1200

and at i = 6%, Y = 1400

and at i = 4%, Y = 1600

And for the LM curve, at i = 10%, Y = 1800

and at i = 8%, Y = 1600

and at i = 6%, Y = 1400

and at i = 4%, Y = 1200

Now increase the level of government spending by $10 billion.

a. According to the applicable Keynesian formula multiplier, how much should that $10 billion increase in government spending increase the level of income?

b. According to your IS – LM curves, how much would that $10 billion increase in government spending increase the level of income? (You may interpolate/estimate the change in income if necessary. However, make it a tight estimation/interpolation)

c. Is there a difference in the answer you gave for 2a versus 2b? Explain

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