Applying the IS/ LM model 5a

What do each the IS and LM curve represent

The IS curve represents equilibrium in the goods market

The LM curve represents equilibrium in the money market

What is the government spending multiplier

change in gov spending / 1 - Mo=oc

What is a decrease tax multiplier

change in tax * mpc / 1 - mpc

What shifts the IS curve

Changes in AD (Changes in demand for goods and services)

What shifts the LM curve to the right

Fall in price

Fall in Money demand

Rise in Money supply

Why does the IS curve slope the way it does

It is almost AD (As the factors affecting IS are changes in AD)

Link AD to IS and LM

Increase in price shifts LM curve inwards - decreases output so price rising will cause output to fall and vice versa

A change in any factor of AD shifts IS so will also shift AD

Explain the extreme assumption that all prices are fixed at a pre-determined level

If price is fixed firms will attempt to sell to as much as possible

So with this theory (Bullshite one) SRAS will be horizontal

In this theory changes in AD shift output however there is no change to prices as prices are sticky

What about in the long run

In the long run according to this theory output is determined by AS and so changes to AD only change price

Draw a diagram according to this theory showing the effect of AD falling in the short and long run