IS – LM model revisited in the perspective of underground economy

Abstract

PurposeThe purpose of this paper is to review the investment-savings, liquidity-money (IS–LM) model used in the traditional macroeconomic theory as an important tool to analyze the dynamics of product and money market. The IS curve represents product market equilibrium condition and the LM curve represents money market equilibrium condition. However, the traditional IS–LM model was formulated mainly keeping in mind the dynamics of the product and money markets of developed economies. Thus, there was an urgent need to explore the pre-established IS–LM model in the light of existing enormous, illicit underground economies prevalent all around the world.Design/methodology/approachIn this paper, an exploratory attempt has been made to review the IS–LM model in the light of various illicit practices and by incorporating some assumptions that are relevant to this discussion. In this model, ISil curve could be defined as a locus of points each representing a combination of evaded tax and output of the illicit economy that will keep the illicit economy in equilibrium and, the LMil curve could be defined as a locus of points each representing a combination of illicit supply of money and output of the illicit economy that will keep the illicit economy in equilibrium.FindingsThis paper is aimed at analyzing the traditional IS–LM model from a different perspective, namely, the pervasive underground economy thriving all around the world regardless of the stages of growth and development. A sincere attempt has been made to keep the assumptions simple and closest to the real-world scenario as well as pertinent to the logic of economic theory. In this paper, two major factors of illicit practices, i.e. tax evasion and bribery, are given prime importance and the discussion is focused on those two factors of corruption.Originality/valueThis paper has been prepared keeping in view the standard technical procedures and findings that are described in the relevant academic materials like textbooks and journal publications (mentioned under the “References” column). The analysis and findings appearing in the article are based on logical explanations and are completely free from plagiarism.