Assuming this is an IS-LM model
a. Suppose that households are concerned about the future and cut back on their marginal propensity to consume from 0.80 to 0.667. Try this experiment for the Money Supply Target case and the Interest Target Case. What happens to the multiplier? What happens to the slope of the IS curve. What happens to the equilibrium level of income or output and the interest rate? Explain this intuitively.
b. Suppose that households become less uncertain about the future and decide to hold more cash transactions demand for money. They do this reducing autonomous money demand from 30 to 20. Try this experiment for the Money supply Target case and the Interest Target Case. What happens in the money market? What happens to the slope of the LM curve. What happens to the equilibrium level of income or output and the interest rate? Explain this intuitively.
c. Now consider the situation in part a) for the decline in the marginal propensity to consume in the Money supply Target case and the Interest Target Case. Use your intuition and graphical skills. Construct an ISLM curve equilibrium at the base case values of Y=2422.22 and i = 16.56%. Have the IS curves intersect the LM curve at the same equilibrium. The government implements a stimulus package increasing government spending. Show how this shifts the IS curves and the respective new equilibrium Y and i. In the two cases,(Hint: Draw a separate graph for each targeting case.) is fiscal policy more effective or less effective with the new IS curve?