LM curve represents the trajectory of various income and interest rate combinations in the money market, when money supply equals money demand. The mathematical expression of LM curve is M =ky-hr, which can be expressed as the relationship between income y and interest rate r under the condition of money market equilibrium. The graph of this relationship is called LM curve. In addition, any point on this line represents the combination of interest rate and income. In such a combination, the demand and supply of money are equal, that is, the money market is balanced.
Introduction of LM curve:
The slope of (1) is positive, indicating that the LM curve is generally inclined to the right. Generally speaking, in the money market, the combination of income and interest rate on the right side of LM curve is an unbalanced combination, and the money demand exceeds the money supply. The combination of income and interest rate on the left side of LM curve is an unbalanced combination, and the money demand is less than the money supply. On the LM curve, only the combination of income and interest rate is the balanced combination of money demand equal to money supply. (m= m /P, that is, the actual money supply is determined by the nominal money supply m and the price level p)
(2) The change of money supply will cause the LM curve to move to the right. When the money supply increases, the money demand should be equal to the supply and the demand should also increase. Money demand will increase only if income increases or interest rates fall. If the interest rate remains unchanged, the income will increase; If the income remains the same, the interest rate will fall. This means that the LM curve moves to the right.
(3) Changes in the price level will also cause the LM curve to move. Because the change of price level will cause the change of real money stock. An increase in the price level means a decrease in the actual amount of money, so the LM curve will move to the left, and vice versa.