If short-run equilibrium in the Mundell-Fleming model is represented by a graph with Y along the horizontal axis and the exchange rate along the vertical axis, then the LM* curve:
A)slopes upward and to the right because at a higher income a higher interest rate is needed to increase velocity.
B)is vertical because monetary velocity is independent of the interest rate.
C)is vertical because the exchange rate does not enter into the LM* equation.
D)slopes upward and to the right because a higher exchange rate leads to a higher income.

Question

Quizplus · Accepted Answer

The LM* curve is vertical in the Mundell-Fleming model because it represents the money market equilibrium, which is not directly affected by the exchange rate.

If Short-Run Equilibrium in the Mundell-Fleming Model Is Represented by a Graph