Question

The Federal Reserve is on the path of increasing interest rates whereas the congress is passing a tax cut bill. Using the IS-LM model for a large open economy, show the impact of these policies on output, interest rate, exchange rate and net exports. Does it matter whether the economy is at the full employment level or not?

Answer 1

The Federal Reserve is on the path of increasing interest rates whereas the congress is passing a tax cut bill. Using the IS-LM model for a large open economy, show the impact of these policies on output, interest rate, exchange rate and net exports. Does it matter whether the economy is at the full employment level or not?

Anawer:-

The current crisis in Greece has led to an increase in risk premium. A small open economy's interest rate is determined by the interest rate plus a risk premium. Because of hazard premium, the higher financing cost will affect both the IS and LM bends. The IS bend movements to one side since higher loan costs decrease speculation spending. The LM bend movements to the privilege since when the financing cost builds, cash request will diminish which permits a higher yield for cash supply. The movements will cause the swapping scale to diminish. The lower swapping scale makes remote merchandise progressively costly and local products less expensive making imports fall and fares to rise. The increase in net exports will offset the decrease in investments which will have the output rise.