The equations below describe the aggregate demand of an economy. There are neither a flow of goods and services nor capital across borders of this country. Y=C +I +G………. (1) C=Co+C(Y^d)……. (2) Y^d= Y-T…………. (3) T=t(Y) ……………. (4) I=Io+I(r)………… (5) G=Go……………... (6) M=PL(r,Y)……… (7) where Y is gross real domestic product, C is aggregate consumption expenditure by households, I is aggregate investment expenditure by firms, is government purchases of goods and services, Y^d is disposable personal income, and T is total income tax payments to government by households. In addition, M is nominal money stock, P is price level and r is real interest rate. Use the above information to answer the following question. (d) In the IS-LM model, we assume that real and nominal interest rates are identical, implying the price level does not adjust completely and immediately to disturbances. Explain how this lack of perfect nominal adjustment causes monetary changes to affect real output in the short run.
The equations below describe the aggregate demand of an economy. There are neither a flow of goods and services nor capital across borders of this country.
Y=C +I +G………. (1)
C=Co+C(Y^d)……. (2)
Y^d= Y-T…………. (3)
T=t(Y) ……………. (4)
I=Io+I(r)………… (5)
G=Go……………... (6)
M=PL(r,Y)……… (7)
where Y is
(d) In the IS-LM model, we assume that real and nominal interest rates are identical, implying the price level does not adjust completely and immediately to disturbances.
Explain how this lack of perfect nominal adjustment causes monetary changes to affect real output in the short run.
Step by step
Solved in 4 steps
