The Mundell-Fleming Model & IS-LM similarities
- stress the interaction between the …
- Price levels are ____, and both show short-run fluctuations in …
goods market and the money market
fixed; aggregate income
The Mundell-Fleming Model assumes an ….; the IS-LM assumes a closed economy.
open economy in which trade and
finance are added
important assumption:
- the economy being studied is a …
meaning that it can borrow or lend as much as it wants in world financial markets, and therefore, the economy’s IR is controlled by the
small open economy and there is perfect capital mobility
world IR, denoted as r = r*.
One key lesson about this model is that the behavior of an economy
depends on the _________ it adopts.
exchange rate regime (floating or fixed.)
floating exchange rates
- the exchange rate (e) is set by _____ and is allowed to fluctuate in response to ______
- The e, adjusts to achieve simultaneous …. When something changes that equilibrium, the exchange rate is allowed to adjust to a NEW rate.
market forces
changing economic conditions.
equilibrium in the goods market and the money market.
e DOES NOT affect ____; only ____
LM; IS
Is= Y= C(Y-T) + I (r)+ G+ NX (e)
LM= M/P= L (r*, Y)
Assumption 1:
The domestic interest rate is equal to the …
world interest rate (r = r*).
Assumption 2:
The price level is exogenously fixed since the model is used to analyze the short run (P). This implies that the …
nominal exchange rate is proportional to the real exchange rate.
e(nominal)= e(real)
Assumption 3:
The money supply is also set _______ by the central bank (M).
exogenously (fixed)
Assumption 4:
Our LM* curve will be ____ because the exchange rate does NOT enter into our LM* equation.
vertical
The IS* curve slopes ______ because a higher exchange rate …. (since a currency appreciation makes domestic goods more expensive to foreigners), which in turn, _____ aggregate income.
downward
reduces net exports
lowers
The LM curve and the world interest rate together determine the _______
The LM* curve is vertical because the exchange rate does …
level of income.
not enter into the LM* equation.
