Question

According to the IS–LM model, if Congress raises taxes but the Fed wants to hold income constant, then the Fed must ______ the money supply.

Answer 1

Increase

Step-by-step explanation:

Population net income consists of the difference between labor income and expenditure. If the government adopts a contractionary fiscal policy, that is, increases taxes, the net income of the population will decrease, since part of the income will be directed to the payment of taxes. For the Fed to compensate for this decline in income, an expansionary monetary policy will have to be adopted, ie the Fed must act to stimulate the population's income. The increase in money supply has the effect of warming the economy in the form of higher demand and higher wages. This is the form of compensation between two different policies, one contractionist and one expansionist.