Page 183 - DECO402_Macro Economics

Macroeconomic Theory

Notes Shift in the IS and LM Curve and change in Equilibrium
The change in equilibrium of real and monetary fields will then happen when there will be a shift
in IS curve or LM curve or both. As we have shown previously that the IS curve shifts towards right
because of rise in autonomous components of total expenditure. The IS curve shifts towards left
because of fall in autonomous components of total expenditure. If LM Curve is given, then high
equilibrium comes from the coincidence of actual GDP and interest rate because of right shift of IS
curve. The low equilibrium comes from the coincidence of actual GDP and interest rate because of
left shift of IS curve. The LM curve shifts towards right because of rise in money supply and towards
left because of reduction in money supply. Because of right shift of LM curve on given IS curve, the
actual GDP rises and interest rate decreases and because of left shift of LM curve, the actual GDP
reduces and interest rate rises. Figure 19.4 (A) shows that the actual GDP and interest rate change
because of shift in IS curve. Initial Equilibrium is shown on point E where IS = LM. As the investment
expenditure increases, IS curve becomes IS on shifting. New equilibrium point is on E . Similar to
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the equilibrium point E d, the actual GDP and interest rates are OY and Or respectively which are
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more than initial actual GDP and interest rate. On being the autonomous investment low IS Curve
becomes IS from IS on shifting. Equilibrium also becomes E on being shifted from E. Similar to this,
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the actual GDP level and interest rates are OY and Or respectively which are less than initial actual
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GDP and interest rate.
Task Express your views on ‘simultaneous equilibrium in product and money’.

Figure 19.4

Figure 19.4 (B) shows that how the shift in LM curve affects the actual GDP and interest rate. Initial
equilibrium is on point E. on rising in the money supply; LM curve becomes LM on shifting. New
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equilibrium point is E which shows the high level of GDP and low level of interest rate equal to OY
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and Or respectively. On being money supply lesser; LM curve becomes LM on shifting. Equilibrium
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point comes on E on shifting which shows the lower level of GDP and high level of interest rate equal
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to OY and Or respectively.
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