What Is...'The Multiplier'?
The multiplier relates the effect on national income of a rise in the injections (export revenue, government spending, investment). The formula for the multiplier is:
| K =Â | 1 |
| (1 - MPC) |
| K =Â | 1 |
| MPW |
MPW is the Marginal Propensity to Withdraw and MPC is the Marginal Propensity of Consumption.
Example of the multiplier process
Image copyright: Hilary Quinn, from stock.xchng. The multiplier process states that any increase in injections will have a more than proportionate impact on national income. If investment, for example, increased by £100 million, national income would rise by something more than £100 million. Why? It is partly to do with the way national income statistics are calculated - through adding all the incomes, expenditure or value of output that occurs in the economy over a period of a year. Imagine that you were given £100 and you decided to spend it on buying an MP3 player. You buy the MP3 player from Dixons. Dixons receive £100. They in turn will have to replenish their stock and so they order another MP3 player from the wholesale distributor for the retail price of £75. The wholesale distributor in turn will have to order another MP3 player to maintain their stock from Sony for the price of £60. Sony has to manufacture another MP3 player and buys raw materials from a component supplier for £20.What is the total of the expenditures in this sequence? 100+75+60+20 = 255. So, the initial injection of £100 has led to a rise in national income of £255. The multiplier in this example would be 2.55. |