The LM schedule
Money and banking
Authorizer: Dr. Abdul Qadeer khan
• Money market
• Equilibrium interest rate
• Level of real income determination
• LM schedule
• Derivation of the LM schedule
• Determinants of the LM schedule
• Shifts in the LM schedule
• Effects of Fiscal and Monetary Policy
• Is the segment of financial market in which highly liquid assets are
traded e.g. (P.I.B) Pakistan investment bonds, forex exchange rate and
• LM deals with the money market where as IS schedule deals with
• Equilibrium of the money market requires equality between the
supply and the demand for money.
Ms = Md
Equilibrium interest rate &
Level of real income determination
Equilibrium interest rate
Nominal supply of money
Level of price
Other factors that influence public demand for real
Level of real income
• Level of real income determination:
Equilibrium level of real income is determined by the level of desired
expenditures in the economy
• 1937 john hicks derived the LM schedule.
• It is a Set of points which represents.
“All the combination of real income and interest rate for
which the market is in equilibrium”
• Before it was named as LL schedule but now LM as :
holdings of money balance (liquidity) L= quantity of money
balance supplied M
• The model is presented as a graph of two intersecting
lines in the first quadrant.
Horizontal axis represents real income or real GDP (y)
Vertical axis represents the real interest rate (r) .
Point of intersection is called equilibrium point MD/P = MS/P.
Take demand curve as real money demand MD/P
Take supply curve as real money supply MS/P.
•Take real money supply constant (Ms/p).
And assume that it is fixed by the central
•If not then the locus combination will not
be in same position
Derivative of the LM schedule
• Previous chapter that : If real money supply falls then our demand
will shift towards leftward
• If real money supply increase then our demand curve will move
If real money supply increase(upward)
Deriving the L-M Curve
• If we plot the equilibrium points on a separate graph then we will get
the LM schedule as it justify the definition:
“All the combination of real income and interest rate
for which the market is in equilibrium”
Properties of LM Curve
• Upward sloping,
Y L i* Increase/Decrease in the real money
supply shift the LM curve Rightward/Leftward.
• The steepness or flatness of the LM curve describes the
elasticity or responsiveness of money demand to the
nominal interest rate.
-- Steep LM curve: inelastic.
-- Flat LM curve: elastic.
• An increase in money
causes the LM curve
to shift down (right)
Shifts in LM Curve due to change in Money
Some important consideration
• Taxes affect the IS curve, not the LM curve.
• Monetary policy does not affect the IS curve, only the LM curve.
• For example, an increase in the money supply shifts the LM curve
• Monetary contraction, refers to a decrease in the money supply
• An increase in the money supply is called monetary