Question

Go to http://www.eurmacro.unisg.ch/Tutor/islm.html. Set the policy instruments to G = 80, t = 0.20, c = 0.75, and b = 40. Now increase the sensitivity of investment

to the interest rate, b, from 40 to 80. What happens to the slope of the IS curve? Why

Short answer

More sensitivity of Investment to interest rate leads to flatter IS curve is, & the value of multiplier is large - depicting more change in national income due to change in output.

Step-by-step solution

Basic Concept 

The IS curve is downward sloping because an increase in real interest rates leads to decrease in investment level & net exports, which decreases aggregate demand & national equilibrium output level.

Explanation 

An increase in investment sensitivity to interest rate implies that a change in interest rate impacts changes in investment level & net exports by more magnitude. This subsequently leads to national output also being affected by the former by a higher magnitude.

Hence finally, the sensitivity of output level to change in interest rate also increases. It makes the IS curve flatter, depicting a larger multiplier.