Suppose policy makers decide to reduce the money supply. This monetary policy action will cause which of the following to occur?Select one:A.Both the IS and LM curves shift.B.Output will change causing a change in investment and a shift of the IS curve.C.The LM curve shifts and the economy moves along the IS curve.D.The IS curve shifts and the economy moves along the LM curve.E.Neither the IS nor the LM curve shifts.
Question
Suppose policy makers decide to reduce the money supply. This monetary policy action will cause which of the following to occur?Select one:A.Both the IS and LM curves shift.B.Output will change causing a change in investment and a shift of the IS curve.C.The LM curve shifts and the economy moves along the IS curve.D.The IS curve shifts and the economy moves along the LM curve.E.Neither the IS nor the LM curve shifts.
Solution
The correct answer is C. The LM curve shifts and the economy moves along the IS curve.
Here's why:
The IS-LM model is used to illustrate the relationship between interest rates and real output in the goods and services market and the money market. The IS curve represents all equilibrium points in the goods market, while the LM curve represents all equilibrium points in the money market.
When policy makers decide to reduce the money supply, it affects the money market, causing the LM curve to shift. A reduction in the money supply leads to an increase in interest rates, making money more expensive to borrow. This does not directly affect the goods market, so the IS curve does not shift.
As a result of the shift in the LM curve, the economy moves along the IS curve to a new equilibrium point, where the goods market is in equilibrium at a higher interest rate and lower level of real output. This is because the increase in interest rates discourages investment,
Similar Questions
Which of the following occurs as the economy moves leftward along a given IS curve?Select one:A.A reduction in the interest rate causes a reduction in the money supply.B.An increase in the interest rate causes investment spending to decrease.C.A reduction in the interest rate causes money demand to increase.D.A reduction in taxes causes a reduction in demand for goods.E.An increase in government spending causes a reduction in demand for goods.
A monetary contraction shifts the LM curve up, leading to a(n) _____ in output and ____ interest rates. A fiscal contraction shifts the IS curve in leading to, a(n) _____ in output and ____ interest rates.
Consider the IS/LM model where the LM is horizontal. Which of the following statements are correct?Group of answer choicesAn expansionary monetary policy involves a reduction in the cash rate, shifting down the yield curve, but without a change in the LM.A restrictive monetary policy would involve an increase in the cash rate, shifting up the LM and reducing investment expenditure.Whether expansionary or restrictive, such monetary policies change the position of the LM but not the position of the yield curve.Both the second and third alternatives above are correct statements, but the first alternative is an incorrect statement.
Which of the following actions will shift the IS curve to the left?A.Increasing government spending on public transport.B.Implementing expansionary fiscal policy.C.Raising tax offsets.D.Raising tax rates.
Which of the following would come from contractionary monetary policy?Multiple choice question.An decrease in the money supplyAn decrease in the interest ratesAn decrease in government spendingAn decrease in taxes
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