Posted By: MbaNotesWorld November 10, 2010

1. The Basic Idea of the Multiplier

• The multiplier is the amount by which a change in any component of autonomous expenditure is magnified or multiplied to determine the change that it generates in equilibrium expenditure and real GDP.

• The multiplier exists because a change in autonomous expenditure creates a change in disposable income, which leads to additional changes in induced expenditure and disposable income.

2. The Size of the Multiplier

              Multiplier =

3. Why is the Multiplier Greater Than 1?

• The multiplier is greater than 1 because an increase in autonomous expenditure induces further increases in aggregate expenditure—induced expenditure increases.

4. The Multiplier and the MPC

• The greater the marginal propensity to consume, the larger is the multiplier. Ignoring the effects of imports and income taxes, the multiplier equals

5.  Imports and Income Taxes

• The larger is the marginal propensity to import and the larger is the marginal tax rate (the fraction of a change in real GDP that is paid in income taxes), the smaller is the multiplier.

• The general formula for the multiplier is

Multiplier =

6. Business-Cycle Turning Points

• The forces that bring business-cycle turning points are the swings in autonomous expenditure such as investment and exports. The mechanism that gives momentum to the economy’s new direction is the multiplier.