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An Optimizing IS-LM Specification for Monetary Policy and Business Cycle Analysis

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  • McCallum, Bennett T
  • Nelson, Edward

Abstract

We ask whether relations of the IS-LM type can sensibly be used for the aggregate demand portion of a dynamic optimizing general equilibrium model intended for analysis of issues regarding monetary policy and cyclical fluctuations. The main result is that only one change--the addition of a term regarding expected future income--is needed to make the IS function match a fully optimizing model, whereas no changes are needed for the LM function. This modification leads to a dynamic, forward-looking model of aggregate demand that is tractable and usable with a wide variety of aggregate supply specifications. Theoretical applications concerning price level determinacy and gradual price adjustment are included.

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Bibliographic Info

Article provided by Blackwell Publishing in its journal Journal of Money, Credit and Banking.

Volume (Year): 31 (1999)
Issue (Month): 3 (August)
Pages: 296-316

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Handle: RePEc:mcb:jmoncb:v:31:y:1999:i:3:p:296-316

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Web page: http://www.blackwellpublishing.com/journal.asp?ref=0022-2879

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  1. Robert G. King, 1993. "Will the New Keynesian Macroeconomics Resurrect the IS-LM Model?," Journal of Economic Perspectives, American Economic Association, vol. 7(1), pages 67-82, Winter.
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