Multiplier & Accelerator

• What does the multiplier indicate about AD and real GDP?

  Increased AD leads to greater real GDP
• What does the accelerator theory state about investment?

  Investment depends on the rate of change of National Income
• What does the national income multiplier describe?

  Initial AD injection causes a larger rise in national income
• What factors determine the size of the national income multiplier?

  • MPW (marginal propensity to withdraw)
  • MPS (marginal propensity to save)
  • MPT (marginal propensity to tax)
  • MPM (marginal propensity to import)
• What is the formula for the multiplier?

  1/(1-MPC) or 1/MPS
• How does an increase in injections affect the AD curve?

  The AD curve shifts to the right
• What determines the size of the shift in the AD curve?

  The size of the multiplier determines the shift
• What is the average propensity to consume (APC)?

  • Fraction of disposable income spent on consumption
  • Calculated as consumption divided by household income
• What is the average propensity to save (APS)?

  • Fraction of disposable income saved
  • Calculated as 1 - APC
• What is the average propensity to withdraw (APW)?

  • Total amount withdrawn from circular flow
  • Calculated as APS + APT + APM
• What is the marginal propensity to consume (MPC)?

  Fraction of change in disposable income spent
• What is the marginal propensity to save (MPS)?

  Fraction of change in disposable income saved
• How is the marginal propensity to withdraw (MPW) calculated?

  Change in withdrawals divided by change in income
• What does the output gap represent?

  Percentage difference between actual and potential output
• What is a negative output gap?

  Actual GDP is below productive potential
• What causes negative output gaps?

  • Actual GDP less than potential GDP
  • Under-utilization of resources
  • Demand-side shocks (e.g., Covid-19)
• What is a positive output gap?

  Actual GDP is above productive potential
• What causes positive output gaps?

  • Actual GDP greater than potential GDP
  • Resources working beyond usual capacity
• What are the consequences of a positive output gap?

  • Rising demand-pull inflation
  • Rising cost-push inflation
• What are the consequences of a negative output gap?

  • Rising unemployment
  • Possible deflation risk
  • Lack of AD deters investment
• What factors influence the consequences of an output gap?

  The time period and spare capacity in the economy
• What are the four macroeconomic objectives?

  • Sustainable economic growth
  • Low inflation around 2%
  • Equilibrium in balance of payments
  • Low unemployment
• What is the purpose of AD/AS diagrams?

  • Illustrate positive and negative output gaps
  • Show shifts in aggregate demand and supply