801 The IS Model

The IS model is going to be the first major piece of the Macroecons puzzle that you will be learning today and I hope you’re excited about it! We will be dealing a lot with this curve in the rest of the unit and once you’ve mastered this curve, I can assure you that you will find the rest of Macroecons very easy and fun to learn!

So far, we have looked at the goods market and managed to find the equilibrium output given certain expenditure habits of the economy. We have also seen how we can find the equilibrium level of INVESTMENT given a certain level of private (Household and Firms) savings, public (Government) budge, and net exports. That was just an alternate way of looking at the equilibrium of the goods market! The main way would be the IS function.

The IS function stands for Investment & Savings function, which is a:

  1. A graph of
  2. All the possible equilibrium points
  3. In the goods market (AE Diagram)
  4. With Income(Y) plotted against Real Interest Rates(r)

It is necessary for us to understand how the IS model works because combining it with the Liquid Assets Market or LM model, which you will learn in the next video, will give us the interest rate level that will ensure equilibrium in BOTH the goods and liquids assets market. Just like demand and supply, the economy is also moving towards some kind of equilibrium and by understanding how the ISLM model works, we can make some sort of prediction about what’s gonna happen to the economy!

At the end of this video, you should be able to:

  • Derive the IS curve using both the graphical and mathematical approach
  • Understand what makes the IS curve shift right or left
  • Understand what makes the IS curve steeper or flatter

 

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Author: admin

5 Comments

  1. Mark Kruger says:

    Love you work. Thankyou!!!

  2. Henry says:

    Serious lover with this site, a lot of your articles have really helped me out. Looking forward to updates!

  3. Mark Kruger says:

    Hi again,

    It is very helpful to have the equation for r spelt out like this (at 6.00) and to see that the autonomous component is the y-axis intercept. If you have the time, there is a problem in the Witztum textbook (not study guide) on p. 427. In the second-last paragraph he writes “as the autonomous component is unchanged but the multiplier is greater, the IS shifts to the right and becomes flatter.” This contradicts what you are saying but I agree with you. If the autonomous component is unchanged, shouldn’t it NOT shift, but become flatter due to the greater multiplier?

    I can’t believe you only got 64 with your ability! What do they expect???

    All the best,

    Mark