Answer to Question #243831 in Microeconomics for Dilini

Question

Explain the IS-LM model

Answer 1

Solution:

The IS-LM model refers to a macroeconomic model that displays how the economic goods market (IS) interrelates with the loanable funds or money market (LM). The IS stands for Investment Savings and LM stands for Liquidity preference Money supply. The IS-LM model can be utilized to describe how changes in market preferences change the equilibrium levels of GDP and money market interest rates.

The IS curve displays the set of all levels of interest rates and output (GDP) at which total investment (I) equals total saving (S). The LM curve, on the other hand, displays the set of all levels of income (GDP) and interest rates at which money supply equals money demand.

 

The intersection of the IS and LM curves displays the equilibrium point of interest rates and output when money markets and the real economy are in balance.