IS/LM Model - History

History

The IS/LM model was born at the Econometric Conference held in Oxford during September, 1936. Roy Harrod, John R. Hicks, and James Meade all presented papers describing mathematical models attempting to summarize John Maynard Keynes' General Theory of Employment, Interest, and Money. Hicks, who had seen a draft of Harrod's paper, invented the IS/LM model (originally using the abbreviation "LL", not "LM"). He later presented it in "Mr. Keynes and the Classics: A Suggested Interpretation".

Hicks later agreed that the model missed important points of Keynesian theory, criticizing it as having very limited use beyond "a classroom gadget", and criticizing equilibrium methods generally: "When one turns to questions of policy, looking towards the future instead of the past, the use of equilibrium methods is still more suspect." The first problem was that it presents the real and monetary sectors as separate, something Keynes attempted to transcend. In addition, an equilibrium model ignores uncertainty – and that liquidity preference only makes sense in the presence of uncertainty "For there is no sense in liquidity, unless expectations are uncertain." A shift in one of the IS or LM curves will cause a change in expectations, which shifts the other curve. Most modern macroeconomists see the IS/LM model as being, at best, a starting approximation for understanding the real world.

Although disputed in some circles and generally accepted as being imperfect, the model is widely employed and seen as useful in gaining an understanding of macroeconomic theory. It is included in most university undergraduate macroeconomics textbooks.