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Department
Economics
Course
01:220:321
Professor
Xi Wang
Semester
Spring

Description
Problem Set 4 Chapter 12 (chapter 11 in 7th edition): Aggregate demand II: applying the IS­LM model 1. Chapter 12, Question 6 Use the IS­LM Diagram to describe the short­run and long­run effects of the following  changes on national income, the interest rate, the price level, consumption, investment,  and real money balances.  a. An increase in the money supply   An increase in the money supply shifts the LM curve to the right in the short run.  The interest rate then falls, and output rises because the lower interest rate causes more  investment, which in turn increases output. b. An increase in government purchases. An increase in government purchases shifts the IS curve to the right. In the short  run, output increases and the interest rate increases. c. An increase in taxes.    An increase in taxes reduces disposable income, shifting the IS curve to the left.  In the short run, output and the interest rate decline. In the longer run, prices begin to  decline because output is below its long­run equilibrium level, and the LM curve then  shifts to the right.   2. Chapter 12, Question 7 The Fed is considering two alternative monetary policies:   ▯holding the money supply constant and letting the interest rate adjust, or  ▯adjusting the money supply to hold the interest rate constant.  In the IS­LM model, which policy will better stabilize output under the following  conditions?  a. All shocks to the economy arise from exogenous chan
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