IMac – Editing iMac settings from an external Mac

According to this source, this should work. This other source confirms it. These are the troubleshooting steps I would try:

• Run all software updates on both the iMac and MacBook Air. A lot of times there are firmware updates that address issues like this.

• Open System Preferences > Displays and click Detect Displays.

• Reset the PRAM on both the iMac and the MacBook Air by restarting the computer and holding ⌘+⌥+P+R on boot but until you hear the POST chime twice. Then you can let go and boot normally. Be sure to do this on both machines.

Try going through these steps and let me know if you're able to resolve the issue.

Using your mac in target display mode would waste it's potential as a more power computer than your MacBook. Try an app like Teleport. It lets you network your multiple Macs together so that a host Mac's mouse and keyboard can be used to control other Macs. It works very similarly to multiple displays on a single machine, and even the clip board is shared between the two! The only issue is that you can't drag windows between the two displays (which are actually running on two separate computers), but at least both Mac's power can be used.