Return to Multiplier effect (idea)

The multiplier effect, the [cornerstone] of [Keynesian] [fiscal policy], states that an increase in autonomous spending (on [consumption] expenditures, [gross private domestic investment], [government spending], or [net foreign investment]) will cause a multiple growth of [aggregate demand]. Keynesian economists believe that this increase in aggregate demand will cause an equal increase in [gross national product], whereas [classical economists] believe that this increase will only lead to an increase in the [price level] ([inflation]).

The multiplier is dependent on the [marginal propensity to consume]. It is best explained by example. Assuming the [marginal propensity to consume] (MPC) is 0.8; the [marginal propensity to save] (MPS) will be 0.2 because MPC+MPS=1. If Bob finds $100 buried in the ground and spends it at the local computer store, the [gross national product] will have increased by $100 through the new spending. The owner of the computer store will decide to save $20 (0.2*$100) and spend $80 (0.8*$100). The owner spends the $80 at a tailor for a suit. The increase in [disposable income] by finding $100 has yielded an increase in $180 in [gross national product]. He will save $16 (0.2*$80) and spend $64 (0.8*$80). Expanding this a few more rounds:

1: $100  ,-> $80  ,-> $64  ,-> $51.2  ,-> $40.96
2: x .8  |   x.8  |   x.8  |   x  .8  |   x   .8
   ----  |   ---  |   ---  |   -----  |   ------
3:  $80 -'   $64 -' $51.2 -'  $40.96 -'  $32.768

1: The input money
2: The MPC
3: The ouput money

This continues ad infinitum. If you add the original $100 to all the outputs, you will get $500:

$100
  80
  64
  51.2
  40.96
  32.768
  26.2144
  20.97152
  16.777216
  13.4217728
  10.73741824
+ 42.94967296 == all other rounds
-------------
$500

This $500 is also equal to $100 * (1/0.2) because 0.2 is the MPS and some mathematical stuff I won't explain here. It has to do with the fact that it is the sum of the infinite series $100 * 0.8^x, where x is the set of integers from 0 to positive infinity.

Existing:


Non-Existing: