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Questions › DSE › DSE 2011 › Q53
2 marksMacroeconomics › IS-LM model › Fiscal policy and crowding out in IS-LMHardabout 4 min

DSE 2011 Question 53: IS-LM model

Setup, from Q52 of the paper:

Consider the fixed-price model: C=C0+c1(Y−T)C=C_{0}+c_{1}(Y-T)C=C0​+c1​(Y−T) with 0<c1<10<c_{1}<10<c1​<1; I=i0+i1rI=i_{0}+i_{1}rI=i0​+i1​r with i1<0i_{1}<0i1​<0; Y=C+I+GY=C+I+GY=C+I+G; money demand Md=m0+m1Y+m2rM^{d}=m_{0}+m_{1}Y+m_{2}rMd=m0​+m1​Y+m2​r with m2<0<m1m_{2}<0<m_{1}m2​<0<m1​; and Md=MM^{d}=MMd=M. In this economy, an increase in GGG

(Same fixed-price model.) The more negative is m2m_{2}m2​, ceteris paribus,

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Plain-text version

Setup, from Q52 of the paper: Consider the fixed-price model: C=C₀+c₁(Y-T) with 0<c₁<1; I=i₀+i₁r with i₁<0; Y=C+I+G; money demand M^d=m₀+m₁Y+m₂r with m₂<0<m₁; and M^d=M. In this economy, an increase in G (Same fixed-price model.) The more negative is m₂, ceteris paribus, (A) the greater the effect of an increase in G on r. (B) the smaller the effect of an increase in G on r. (C) The magnitude of the effect of G on r does not depend on the magnitude of m₂. (D) r decreases as G increases, but the magnitude of this is indeterminate.

Also written as: Setup, from Q52 of the paper: Consider the fixed-price model: C=C_0+c_1(Y-T) with 0<c_1<1; I=i_0+i_1r with i_1<0; Y=C+I+G; money demand M^d=m_0+m_1Y+m_2r with m_2<0<m_1; and M^d=M. In this economy, an increase in G (Same fixed-price model.) The more negative is m_2, ceteris paribus,

IS-LM model has come up 137 times in 7 exams since 2004.

What this question tests

This question is on Fiscal policy and crowding out in IS-LM, part of IS-LM model in Macroeconomics.

How government spending and taxes move income and the interest rate, and how much private spending is displaced.

TestStop has 17 past-paper questions on this subtopic.

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Question from the DSE 2011 paper. Solutions are TestStop's own. Not affiliated with or endorsed by any examination authority.