Page 173 - DECO402_Macro Economics

Macroeconomic Theory

Notes Part B of figure 18.6 shows that IS Curve becomes IS and
1
IS on shifting from IS. The rise in exogenous expenditure
2
(the analogous investment given by the government)
shifts line AE (in part A) upward on AE . Consequently,
1
(On the constant interest rate Or) the IS Curve becomes
IS on being shifted from IS (in part B). On reducing the
1
analogous expenditure, the AE Curve becomes AE on being
2
shifted downward from AE (in part A). Consequently, the
IS Curve becomes IS on being shifted backward from IS
2
(in part B).
Self Assessment
Multiple Choice Questions: Figure 18.5
3. If there is a change in analogous component Ia of investment, then there will be a/an ........
in investment demand curve.
(a) shift (b) inclination
(c) change (d) none of these
4. How investment impacts Aggregate Expenditure and the level of GDP when ‘r’ happens
to change?
(a) PGP (b) GDP
(c) ADP (d) Nome of these
5. If interest rate (r) doesn’t remain constant (As in IS-LM Model) then the process of investment
multiplier would not be as …………….
(a) easier (b) harder
(c) variable (d) none of these
6. The IS Curve is ..................from the combination of actual GDP level and interest rate.
(a) born (b) derived
(c) established (d) none of these

18.2 LM Curve and Its Derivation (Money Market Equilibrium)

The LM Curve shows the different combinations of actual GDP (Y) and interest rate (r) which
establishes the equality between supply and demand of money. Hance it shows the relationship
between actual GDP and market rate of interest. According to —Lipsey and Chrystal. “The LM Curve
plots combinations of GDP and the interest rate, for a given money supply and given price level,
that are consistant with the equality of money demand and money supply.”
The derivation of LM Curve makes the study of all three relationships mandatory: (i) We establish the
relationship between money demand and interest rate. (ii) We explain this thing how the change in
GDP by the change in demand of money impacts the interest rate. (iii) On one hand, We establish the
relationship between the different values of ‘r’ and GDP and on the other hand, establish the equality
between demand of money and supply of money.
(i) Demand of money and interest rate: The purport from demand of money is the demand of
real balance by the people. Real balances mean money balance or normal balance which are

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