The Evolution And Development Of IS-LM Model

The IS-LM framework has been the standard model used for understanding and teaching Keynesian macroeconomics since 1960. Even a monetarist such as Friedman could subscribe to a modified version of the IS-LM model. IS-LM is perhaps the prime example of"cognitive dissonance"in economics, and is problematic to many economists. On the one hand, the IS-LM model is still taught by many academic economists or they use it to derive the AD-AS approach. On the other hand, the same economists realize the limitations of the basis IS-LM model and would not now use it for policy analysis, as they did in the past.Where dose the IS-LM model make for? The thesis introduces the evolution and development of IS-LM model, it include the following five sections.In section 1, I introduces the early modifications of the IS-LM model. Hicks's original formulation of the IS-LM model, through the work of Hansen,Tobin,Modigliani and Patinkin, became more dominant theoretically. At first Hicks just wanted to clarify Keynes's departure from classical theory. It was largely due to Hansen that the IS-LM model became established in the postwar period as the principal model of the macro economy. The IS-LM built around diagrams and equations, was more formal than was usual, and it was these more formal IS-LM sections that became the most influential of Hansen's writings. James Tobin transform the IS-LM from a model with simple equations for the money market and the flow of investment into a modeling framework with a much more fully developed treatment of asset markets and investment, and mounted a spirited defense of this approach against new classical critiques. Tobin transformed the IS-LM analysis by introducing wealth as an argument in the consumption function, formulating the q theory of investment, proposing optimizing decision rules for portfolio choice, linking asset markets through the adding-up constraint for wealth, and treating investment, international capital flows, and government budget deficits as changes in stocks of saaets,...