Question

10. Even the CARES needed to be approved by congress, the result was money being injected into the economy. How would this be reflected in the IS-LM model? (You can explain or draw a graph, but if you graph be sure to fully label all curves, axes, and shifts of curves and resulting equilibrium) (25 points)

Answer 1

When the money is injecting into the economy, this means that the money supply of the economy will increase which is done by the Fed. In the IS-LM model, with the increase in the money supply, the LM curve will shift to the right. As we can see in the following graph, IS is a downward sloping curve while the LM is an upward sloping curve. So, with the increase in the money supply and the rightward shift of the LM curve, the interest rate in the economy will decrease and the national income in the economy will also increase.

This happens when the Fed purchases the bonds or the government securities from the commercial banks and hence increases the money supply by providing money to the banks in return. This causes an increase in the reserves of the banks and hence more loans can now be made by these banks. The larger availability of money to be loaned out reduces the interest rates in the market and hence boost investments. Higher investments in return produce higher income for the economy.

o Rate of Intust National Ineome