02/24/14 Spending Multiplier Effect

• The spending multiplier effect
• An initial change in spending (C, Ig, G, Xn) causes a larger change in aggregate spending or aggregate spending. (AD)
• Multiplier

• Multiplier

• Why does it happen?
• Expenditures and income flow continuously which sets off a spending increase in the economy.
• Calculating the spending multiplier
• The spending multiplier can be calculated from the MPC or MPS.
• Multiplier 1/1-MPC or 1/MPS
• Multipliers are (+) where there is an increase in spending and (-) where there is a decrease.
• Calculating the tax multiplier
• When the government taxes, the multiplier work in reverse.
• Why? Because how money is leaving the circular flow. 
• Tax multiplier (Note: negative)
• -MPC/1-MPC or -MPC/MPS
• If there is a tax cut, the the multiplier is (+), because there is now more money in the circular flow.