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Unemployment - Essay Example

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This paper analysis the LM and IS curve model in determining how unemployment in the economy can be reduced, there are two types of policies that an economy can apply to fine tune the economy to achieve required economic growth and employment levels…
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Download file to see previous pages There are two types of policies that an economy can apply to fine tune the economy to achieve required economic growth and employment levels, this include fiscal policies that include government expenditure which affect the IS curve, the other type of policy include the monetary policies which affect the LM curve. These factors include the change in the transaction demand for money, change in speculative demand for money and changes in money supply. There are factors that affect money supply and they include changes in open market operations, change in prices and changes in the reserve ratio.

The IS curve joins together combinations of interest rates and national income at which the commodity market is at equilibrium, this is to say that the equilibrium expenditure equals output. Shifts in the IS curve are attributed to changes in government expenditure and changes in net exports.

From the above discussion the factors that cause a shift in the LM and IS curve can therefore be used by the government and monetary policy makers to improve the state of the economy, those factors that lead to a shift in the LM curve which include money supply, changes in prices and reserve ratios can be used to fine tune the economy to reduce unemployment, also those factors that lead to a shift in the IS curve will also help in reducing unemployment and these factors include government expenditure and exports.

According to Keynes, aggregate demand is equal to consumption plus investment plus government, this can be stated as Y = C + I + G for a closed economy and Y = C + I + G + (X –M) for an open economy, an increase in government expenditure therefore will increase aggregate demand. ...
es expenditure then the level of employment will increase but the outcome will be inflationary, the diagram below shows the increase in government expenditure which in turn increases aggregate demand and the level of employment in the economy increases.

The diagram shows an increase in government expenditure which results into an increase in aggregate demand from aggregate demand 1 to aggregate demand 2, as a result the equilibrium level shifts from y1 to y2, this in turn shifts the equilibrium level of the IS LM model, the IS curve shifts from IS curve 1 to IS curve 2.

The economy is at a higher output level and for this reason there is higher employment level, however from our diagram this position brings about an increase in the interest rate level than it was originally was at, the interest rate level increases from I1 to I2. Therefore employment can be increased by the government through an increase in the level of government expenditure. This will however result to higher levels of interest rates as a monetary policy measure to avoid inflation caused by the government expenditure.

From the above diagram it is clear that an increase in government expenditure will result to an increase in aggregate demand will result into increased income, the income level signifies the employment level in the economy and in our case it is clear that this results to higher employment level from y1 to y2.

The LM curve on the other hand depict a policy measure by which an economy can reduce the level of unemployment, an increase in money supply will result into a downward shift in the LM curve, as a result the economy will be at a higher output level and therefore higher employment levels, the diagram below shows a the effect of an increase in money supply on the LM curve and ...Download file to see next pagesRead More
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