Question

3 Derive IS curve and LM curve mathmatically:

(1) Consider in a country A money supply M=4000, price level P=3, inflation expectation and liquidity preference is assumed to be zero to make the calculation simple. The money demand function L(i, Y ) = Y ? 200 ? (r + ? ^e ). Use the above information to derive the LM curve mathmatically and then plot it when real interest rate is between 0 and 8.

(2) Consider in a country A consumption C=300+0.75*(Y-T)-20*r, investment function is I=700-80*r, government spending and tax are both 500. Derive the IS curve and then plot the IS curve when real interest rate is between 0 and 8.

(3) Still consider the country A, suppose the government decide to increase the government spending from 500 to 600, what is the new IS curve if other conditions are the same as described in (1) and (2)? Compare your answer of (2), how much does the IS curve shift?

Answer 1

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