Chapter 18 - IS-MP Analysis

how does interest rate affect investment in the economy

Lower interest rates lower the cost of borrowing for firms, and so investment rises

Which of the following shows the correct effect on the IS-MP framework if there is a credit crunch the economy, meaning banks are unwilling to lend except at high interest rates?

MP curve moves up

The IS curve is constructed by

adding up the level of aggregate expenditure at each real interest rate.

Finding the multiplier

change in GDP/ Change in G spending

planned investment is

expenditure on capital goods by businesses.

MP (monetary policy) curve

illustrates the current real interest rate

A good proxy for the risk-free interest rate is the interest rate on a:

loan to the US government

the higher the opportunity cost of consumption

the lower the aggregate expenditures

In September 2008, the stock market fell sharply and continued to perform poorly due to the financial crisis. How did this change impact GDP in the economy?

IS curve moves left

Which of the following shows the correct effect on the IS-MP framework if there is a rise in home values and wealth in the economy?

IS curve shift right

What can cause the IS curve to shift

Spending shocks occur

What can cause the MP curve to shift

changes in monetary policies Financial Shocks

If the US government lowers the personal income tax rates

disposable income increase, and this leads to an increase in consumption and a right shift of the IS curve

the risk premium is

extra interest charged by lenders to account for risk

IS (investment savings) curve

illustrates the relationship between real interest rates and the output gap

The intersection of the IS and MP curve means

macroeconomic equilibrium

Positive output gap

potential < actual

Negative output gap

potential >actual

If government expenditure rises by $27.5 billion and the multiplier in the economy is 2.5, then:

real GDP rises by $68.75 billion, and the IS curve shifts to the right.

what could make a positive output gap

the US dollar depreciates trading partners reduce tariffs of US exports Monetary policy actions boost the economy

Aggregate Expenditure

the total amount of goods and services that people want to buy across the whole economy

If actual GDP is greater than potential GDP

the economy experiences inflation

AE =

C + I + G + NX