Summary of Romer 2000 - Article Example

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It is a critical instrument for understanding macroeconomic variations. Developed at a time when inflation was nonexistent, its conventions and interpretations, however,…
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Download file to see previous pages In the light of recent advances, it is deemed that time has come to re-evaluate the suitability of using the model in analyzing short-run fluctuations for the undergraduates. In addressing the shortfalls of the IS-LM model, a new theory is essential. A new model that replaces the LM curve composed with its supposition that the central bank marks the currency stream and that the bank monitors the interest rate tenet. The new model avoids the impediments that sprout with IS-LM that comprises the real against the nominal interest proportion and inflation against the value level. It makes treatment of financial policy calmer by reduction of the worth of simultaneity, and by allowing growth to subtleties that are modest and rational.
The IS-LM model describes the economy by the use of two relationships; the output and the interest rate. The output is about the goods in the market. It portends that a higher interest rate decreases the demand for goods at a specific income level. It reduces the output level until the quantity of output demands equals the production quantity. It is the IS curve. The other relationship is about the currency fair. It portends that the quantity of cash needed or the liquidity requirement escalates with income and depreciates with the rate of interest (Romer, p 151). The model adopts a fixed price worth and so incapable of analyzing inflation.
To include inflation analysis, aggregate supply was incorporated which birthed the present IS-LM-AS model. It added the fact that greater output translates to steeper level of price. But was this model the best suited for analyzing current short-run fluctuations. The model assumed controversially that the level of price does not change and in time to disturbances. The model is found to be unreliable and impractical. To improve this is the IS-MP-IA model. The model uses an ...Download file to see next pagesRead More
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