Lm Curves Essay

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1. Money Market--Draw a graph for the money market. BE sure to label all of your curves and axes in this graph. What happens if the interest rate is above the equilibrium rate? Below the equilibrium rate? Finally, discuss why is there an inverse relationship between bond prices and interest rates? Explain. a. The LM Curve will see a shift to the left and decrease the value of "Y" if the IR is higher than the ER of the market. The GDP is increasing in value and there will be an increase of savings.. If the IR was below the equilibrium, the opposite of the previously stated would occur. The LM Curve would see a shift to the right, therefore increasing the value of "Y". The GDP value would then decrease, due to the move from Point A to C, and increase employment which would decrease savings. In addition, there is an inverse relationship to both bond prices and interest rates because as one increase in value, the other decreases, and vice versa. 2. IS-LM Model--Suppose that you have the following equations for the IS-LM model. The following are the equations of the IS-LM model, here including a feature that taxes are not simply given but depend on income through a tax function, T(Y). IS Curve Y = C(Y - T(Y)) + 1® + G LM Curve: M /P + L(r,Y) a. The Fed Funds rate was near zero in 2010. At such low interest rates, it would presume that the economy will be stimulated and promote economic growth. It appears not to be the case. Some could argue that the interest rates are not sensitive to the demand for money. Would an upward sloping LM curve still be applicable?. Explain your reasoning. The LM curve would not be applicable seeing as though the decision to reduce the federal funds is a monetary policy affect the IS curve solely. It would no longer be an upward sloping curve because of the reduction of interest rates has not increased the

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