Analysis of the Albanian Economy through the IS-LM Model

Abstract

The objective of the study is the analysis of IS-LM curves. The aim is to prove that the current theoretical models of IS-LM are not applicable in the Albanian economy. In this paper, the theoretical IS-LM model is analyzed according to the balance of I = S (investment - savings), and AE = Y (aggregate expenditure - gross domestic product). The models I + G = S + T and NX = NFI are not analyzed in this study. Two representative models were obtained, by the authors Hicks - Hansen and Dornbusch - Fischer - Startz. The theoretical and practical aspects of the application of the models are analyzed. The defect of the Dornbusch-Fischer-Startz model and the impossibility of applying it to the data of the Albanian economy is evident. The authors have proposed an improvement of the Hicks-Hansen model for the IS curve because the theoretical model is not applicable. They have replaced the half where Investment equals Savings with a reflection curve of the opportunity cost. This has made the model effective. In the analysis, two of the features of the Albanian economy were taken into consideration: the structure of the currency market where half of it is covered by foreign currency (euro and dollar), and the informal economy that affects the exchange rates and the effectiveness of the policies of the Bank of Albania. In the material, it is found that the transmission effect of the monetary policies implemented by the Bank of Albania is missing. There are weak connections between the rate of REPOs, monetary aggregates and some of the macroeconomic indicators. The rate of inflation and the rate of REPOs are strongly related to the first direction. Recommended; to apply the IS model according to the proposal made by the authors, to realize the de-euroization of the market, to change the objective of the Central Bank, putting as the main objective the preservation of the exchange rate of All in function of economic growth and financial stability. In the analysis, the method of comparison, description, analytical methods and statistical methods are used. Used Data is from INSTAT and the Central Bank of Albania.