Given IS and LM curves of the usual slope, an upward price shock from abroad can be expected to cause
A) nominal interest rates to rise and real interest rates to fall.
B) both nominal and real interest rates to fall.
C) nominal interest rates to fall and real interest rates to rise.
D) both nominal and real interest rates to climb.
E) an unknown affect, because we cannot tell from the information given.

Question

Quizplus · Accepted Answer

An upward price shock from abroad typically leads to higher inflation expectations, which can shift the LM curve to the left as people demand more money for transactions due to higher prices, leading to higher interest rates. Additionally, the IS curve could shift due to changes in net exports, influencing interest rates further. In this context, both nominal and real interest rates are likely to increase as the central bank may raise rates to combat inflation, and the real interest rates adjust for the expected inflation.

Given IS and LM Curves of the Usual Slope, an Upward