Consider the IS-LM curves for an economy with flexible exchange rates. An increase in the foreign income will result in the:
A) LM curve shifting to the right.
B) IS curve shifting to the right.
C) LM curve shifting to the left.
D) IS curve shifting to the left.

Question

Quizplus · Accepted Answer

An increase in foreign income will lead to an increase in demand for the domestic country's goods, which will increase the aggregate demand (AD) for the domestic country. This will result in a rightward shift of the IS curve as higher AD leads to higher output and higher interest rates. The LM curve will not be affected by an increase in foreign income as the exchange rate is flexible, meaning that the domestic currency will adjust to maintain equilibrium in the money market.

Consider the IS-LM Curves for an Economy with Flexible Exchange