2.4.4: The multiplier

• The multiplier process is the idea that an increase in AD due to an initial injection can lead to further increase in national income
• An example of multiplier effect is if the government spends £100M to create new jobs, £90M might be spent by those who have the new jobs, and they then spend money too, £81M of which is spent by those who received money from the spending. MPC here would be 0.9 and multiplier would be 10
• Multiplier Formulas

  1 / MPW

  1 / 1 - MPC
• A negative multiplier effect may also occur, which is where a withdrawal from the economy leads to an even further fall in income
• Effects of the multiplier on the economy

  Growth may occur faster: Injections may be targeted at those with the highest MPC

  There will be a time lag between injection and full effect as not everyone will spend the money immediately
• Marginal Propensity to consume: Proportion of additional income spent on consumption
• Marginal Propensity to save: Proportion of additional income saved
• Marginal Propensity to consume: Proportion of additional income spent on imports
• Marginal Propensity to tax: Proportion of additional income spent on paying taxes
• Marginal Propensity to withdraw: Proportion of additional income spent on withdrawals (MPT + MPM + MPS)
• The multiplier leads to an increase in AD higher than the original increase, however there must be sufficient spare capacity in the economy for extra output
• Multiplier has a big effect when there is a lot of spare capacity in the economy