Suppose that IS and LM intersect at full-employment output. A rightward shift of IS will be followed by a __________ price level that shifts LM to the __________ in a return to full-employment.

Question

Quizplus · Accepted Answer

A rightward shift of the IS curve, which represents an increase in investment and/or consumption, leads to higher demand in the economy. This increased demand typically results in a rising price level. As prices rise, the real money supply decreases (because the value of money falls), making money more expensive and interest rates higher. This mechanism shifts the LM curve to the left, as it represents a decrease in the liquidity of money at each level of income, moving the economy back to full-employment equilibrium but at a higher price level.

Suppose That IS and LM Intersect at Full-Employment Output