The New IS-LM Model: Language, Logic, and Limits

Macroeconomists are increasingly using a New IS-LM model to discuss the economy’s response to shocks and the design of monetary policy rules. This new model has better microfoundations than earlier IS-LM models and explicitly incorporates expectations about future economic conditions. Price level, or inflation rate, targeting is desirable in the New IS-LM model, for it stabilizes output at capacity. Such neutral policies require adjustments to the nominal interest rate as changes occur in the real economy.