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AD-AS and IS-LM question & diagram

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"An increase in transfers (TR) will not affect the level of real GDP or the real money supply in a fully employed economy."

**Comment on this statement with the help of (1) an AD-AS diagram (using a long-run aggregate supply curve for this fully-employed economy operating at potential) and (2) an IS-LM diagram.

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AD-AS and IS-LM question & diagram are featured and explored in this solution.

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At full employment, and in the long run a change in government expenditure has no impact on real GDP. It is fairly easy to show using the AD-AS diagram but will take some more explanation for with IS-LM.

First let us start with AD-AS. Aggregate demand in a closed economy is given by the sum total of private consumption (C), gross investment (I), and government expenditure (G). To make life simple let us keep exports and imports out of the picture. It will not have an ...

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