And since money and bonds are the only assets in the IS-LM
model, there must be an implicit financial wealth constraint requiring the real demands for money and bonds to sum to total real financial wealth (TFW/P).
Since the interest rate determined in the IS-LM
panel is greater than the crossover rate, the NPV criterion also ranks the wooden bridge above the steel bridge.
The standard monetary equation may be used to discriminate between the monetary approach and simple Keynesian multiplier theory, but it cannot discriminate between the monetary approach and the Keynesian IS-LM
models because the monetary equation is the LM schedule in an IS-LM
Applying the Ricardian view to the IS-LM
model, larger deficits resulting from increased expenditures or reduced taxes are offset by increased private-sector savings and therefore fail to increase nominal GDP, money demand, and interest rates.
Baily and Friedman (1995) use the basic IS-LM
diagram to discuss the macroeconomic policy in an open economy strictly in terms of a floating exchange rate system.
T McCallum, "An Optimizing IS-LM
Framework with Endogenous Investment," NBER Working Paper No.
Then the New IS-LM
model implies that it must do so aggressively (raising the rate by more than one-for-one) if there is to be a unique, stable equilibrium.
This discussion is also wide-ranging, from the reduced-form IS-LM
analysis of Poole (1970) to the general-equilibrium analysis of Carlstrom and Fuerst (1995).
Values of these multipliers will further change when the supply side represented by the YQ curve is added to the IS-LM
demand side model.
We shall be charitable here and assume that these authors are aware of the separate bonds-equilibrium curve (BB curve) implicitly underlying the IS-LM
Krugman shows that the liquidity trap is not an artifact of the IS-LM
model's incompleteness: even in a "modern" macroeconomic model based on intertemporal utility maximization by a representative agent, the liquidity trap can arise.
At a higher level of conversion, the IS-LM
framework took hold.