A variable that links the market for goods and services and the market for real money balances in the IS-LM model is the:
A) consumption function.
B) interest rate.
C) price level.
D) nominal money supply.

Question

Quizplus · Accepted Answer

The interest rate is the variable that links the market for goods and services and the market for real money balances in the IS-LM model. The IS curve represents the equilibrium in the goods and services market, while the LM curve represents the equilibrium in the market for real money balances. The interest rate is the price for holding money and it affects both markets. When the interest rate decreases, investment and consumption increase, which shifts the IS curve to the right. At the same time, a decrease in the interest rate lowers the opportunity cost of holding money, leading to an increase in demand for real money balances and shifting the LM curve to the right. Thus, the interest rate is the key variable that links the two markets in the IS-LM model.

A Variable That Links the Market for Goods and Services