International Financial market and Korean Economy Exercises for the IS-LM Framework Prepared by Seok-Kyun HUR Exercises for the IS-LM Framework Question Keynes believed that unstable investment caused the Great Depression Using the simple Keynesian model(consider only the goods market equilibrium), (1) Demonstrate graphically and explain how a fall in investment reduces equilibrium output (2) Assess the impact of $1 fall in investment on the equilibrium output? Exercises for the IS-LM Framework  Question Equal increases in government spending and taxes increase equilibrium output Explain and demonstrate this graphically  Size of the balanced budget fiscal multiplier is in the goods market  Will it hold the same magnitude if the money market is also included in analysis? Exercises for the IS-LM Framework  Question The Federal Reserve increases interest rates when they want to reduce aggregate demand to fight inflation How increases in the interest rate reduce aggregate demand?  Describe (a) channel(s) through which lowered interest rate reduces the aggregate demand Exercises for the IS-LM Framework  Question Using the IS-LM model, show graphically and explain the effects of a monetary expansion combined with a fiscal contraction How the equilibrium level of output and interest rate change?   Output? Interest rate? Exercises for the IS-LM Framework  Question Using the IS-LM model, show graphically and explain the effects of a monetary contraction (1) What is the effect on the equilibrium interest rate and level of output? (2) Monetary contraction is made by CB’s Open Market Operation Then, what is its impact on the bond market? Exercises for the IS-LM Framework  Question Suppose that the demand for money is completely insensitive to changes in the interest rate (1) Explain and show graphically the effect of a fiscal expansion (2) What is this effect called? Exercises for the IS-LM Framework  Question Suppose that the demand for money is completely sensitive to changes in the interest rate (1) Explain and show graphically the effect of monetary expansion (2) What is this effect called? Exercises for the IS-LM Framework  Question Show graphically and explain why targeting an interest rate is preferable when money demand is unstable and the IS curve is stable  Money demand is influenced by a certain random factor, which cannot be controlled by anyone  Interest rate targeting( inflation targeting is its official name) is a monetary policy regime that the CB sustains a certain level of the policy rate  ... Open Market Operation Then, what is its impact on the bond market? Exercises for the IS-LM Framework  Question Suppose that the demand for money is completely insensitive to changes in the interest... in the interest rate reduce aggregate demand?  Describe (a) channel(s) through which lowered interest rate reduces the aggregate demand Exercises for the IS-LM Framework  Question Using the. .. rate (1) Explain and show graphically the effect of a fiscal expansion (2) What is this effect called? Exercises for the IS-LM Framework  Question Suppose that the demand for money is completely