If the quantity of money demanded is not affected by changes in the interest rate,the LM curve is ________ and fiscal policy will be ________.
A)horizontal;very effective
B)horizontal;ineffective
C)vertical;ineffective
D)vertical;very effective

Question

Quizplus · Accepted Answer

When the quantity of money demanded is not affected by changes in the interest rate, the LM curve is vertical, as it represents a fixed money supply. In this situation, fiscal policy will be ineffective because changes in government spending or taxation will not affect interest rates or output. This is known as a liquidity trap, where individuals are hoarding money instead of spending or investing it. A horizontal LM curve represents a situation where changes in the interest rate have no effect on output, but this is not the case when the quantity of money demanded is fixed.

If the Quantity of Money Demanded Is Not Affected by Changes