2 Conclusion MS r is unchanged and Y MS Y Monetary policy is most effective has

2 conclusion ms r is unchanged and y ms y monetary

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2 Conclusion: MS r is unchanged and Y . MS Y Monetary policy is most effective (has a largest effect on Y) when investment is completely interest-elastic. Y 2 Since the I is completely interest elastic, a small drop in interest rate has a largest effect on I and therefore, on Y.
Fiscal Policy Effectiveness & the Slope of the IS Curve (a) Interest-elastic investment r 1 LM IS 0 IS 1 E’ E r Y 0 Y 1 Y r 0 Suppose that G (expansionary FP) G IS curve shift to the right (from IS 0 to IS 1 ) Y (from Y 0 to Y 1 ) r (from r 0 to r 1 ) Final equilibrium: r 1 , Y 1 Conclusion: G Y Fiscal policy is less effective (has a smaller effect on Y) investment is interest-elastic. Since the I is interest elastic, an increase in interest rate causes a larger C-O effect. As a result, FP is less effective (only a small increase in Y). Y 2 D
Fiscal Policy Effectiveness & the Slope of the IS Curve(b) Interest-inelastic investmentr1LMIS0IS1E’ErY1Y0Yr0GIS curve shift to the right (from IS0to IS1)Y(from Y0to Y1)r(from r0to r1) Final equilibrium: r1, Y1Conclusion: G Conclusion: G Fiscal policy is effective (has a larger effect on Y) when investment is interest-inelastic.Since the I is interest inelastic, an increase in interest rate causes a smaller C-O effect. As a result, FP is more effective (has a greater increase in Y).YD Y Y 2
Fiscal Policy Effectiveness & the Slope of the IS Curve (c) Completely Interest-inelastic investment r 1 LM IS 0 IS 1 E’ E r Y 1 Y 0 Y r 0 G IS curve shift to the right (from IS 0 to IS 1 ) Y (from Y 0 to Y 1 ) r (from r 0 to r 1 ) Final equilibrium: r 1 , Y 1 Conclusion: G Y Conclusion: G Y Fiscal policy is most effective (has a largest effect on Y) when investment is completely interest-inelastic. Since the I is completely interest inelastic, an increase in interest rate has no C-O effect. As a result, FP is most effective (has a largest increase in Y).
Fiscal Policy Effectiveness & the Slope of the IS Curve (d) Completely Interest-elastic investment LM IS 0 = IS 1 E r Y 0 = Y 1 Y r 0 G IS curve shift to the right (from IS 0 to IS 1 ) Final equilibrium: r 0 , Y 0 Conclusion: G Y unchanged Conclusion: G Y unchanged Fiscal policy is most ineffective (has no effect on Y) when investment is completely interest- elastic. Since the I is completely interest elastic, an increase in interest rate has a complete C-O effect. As a result, FP is not effective (has no effect on Y).
Monetary Policy Effectiveness & the Slope of the LM Curve (a) Interest-inelastic money demand r 1 LM 1 IS 0 LM 0 E’ E r Y 0 Y 1 Y r 0 Suppose that MS (expansionary MP) while P unchanged. MS LM curve shifts downward. r (from r 0 to r 1 ) Y (from Y 0 to Y 1 ). Final equilibrium: r 1 , Y 1 Conclusion: MS r and Y . MS Y (a larger increase in Y) Monetary policy is effective (has a large effect on Y) when money demand is interest-inelastic. Since the MD is interest inelastic, a large drop in interest rate is required to reequilibrate the money market after the increase in the money stock. As a consequence, I & Y increase by a greater amount.
Monetary Policy Effectiveness & the Slope of the LM Curve (b) Interest-elastic money demand r 1 LM 0 IS 0 LM 1 E’ E r Y 0 Y 1 Y r 0 Suppose that MS (expansionary MP) while P unchanged. MS LM curve shifts downward. r (from r 0 to r 1 ). Y (from Y 0 to Y

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