ABSTRACT
This chapter examines the effects of changes in the interest rate on the equilibrium level of Gross Domestic Product (GDP). The investment/saving (IS)curve represents the relationship between interest rates and the equilibrium level of GDP. The IS model offers a theory of how interest rates affect aggregate demand. Increasing either the marginal propensity to consume or to invest will increase the multiplier, which reduces the slope of the IS curve. Changes in the interest sensitivity of investment similarly affect the slope of the IS curve. Increases in government spending and reductions in taxes both shift the vertical and horizontal intercepts of the IS curve outward without changing the curve's slope. In other words, fiscal policy generates a parallel shift in the IS curve. Any comparative equilibrium analysis of fiscal policy using the IS curve will start by shifting the curve out.
