Apr 17 2009
The potency of government spending and taxation.
Published by Andrew McCarthy at 5:50 pm under AD/AS Model,Expectations,Fiscal Policy,IB Economics,Income,Keynesian Economics,Macroeconomics,Multiplier effect,Recession,Taxes
Economic View – A Dose of Skepticism on Government Spending – NYTimes.com
We all understand that fiscal stimulus is one of the tools that governments can use to increase the level of economic activity during a recession. The fiscal medicine can be delivered in one of two ways. The government can tweak the tax systems to boost incentives to spend and work or it can increase government spending. One tool that we can use to evaluate the merits of these two policies is to compare the relative multipliers that relate to government spending and taxation.
The multiplier is the key component of Keynesian theory and shows the possibility of a given increase in injections, e.g. government spending, investment and exports, increasing aggregate demand by more than the initial value. This logic fits with our understanding of the circular flow where say increased government spending will lead to increased derived demand for other products, and increased demand for labour. Workers will spend additional wages on other products which leads to further increases in aggregate demand. This flow on effect can be diluted by withdrawals from the system such as taxation or savings.
Greg Mankiw wrote an excellent analysis of this issue in the New York Times in Janurary. “A dose of skepticism on government spending”
An essential skill for IB and AP Economics students is to be able to evaluate the effectiveness of Keynesian demand-side policies as well as classical supply-side policies, both fiscal and monetary. An understanding of multipliers can improve a student’s ability to evaluate fiscal policy. Greg writes:
“Economics textbooks, including Mr. Samuelson’s and my own more recent contribution, teach that each dollar of government spending can increase the nation’s gross domestic product by more than a dollar. When higher government spending increases G.D.P., consumers respond to the extra income they earn by spending more themselves. Higher consumer spending expands aggregate demand further, raising the G.D.P. yet again. And so on. This positive feedback loop is called the multiplier effect.
In practice, however, the multiplier for government spending is not very large. The best evidence comes from a recent study by Valerie A. Ramey, an economist at the University of California, San Diego. Based on the United States’ historical record, Professor Ramey estimates that each dollar of government spending increases the G.D.P. by only 1.4 dollars. So, by doing the math, we find that when the G.D.P. expands, less than a third of the increase takes the form of private consumption and investment.”
This low multiplier effect implies that any government spending must be used in an effective manner where it will increase the long-term productivity of the country. During a “jobs think-tank” recently in New Zealand, a media release announced an idea of the government spending a vast sum of money to develop a walking track from one end of the country to the other. Would this lead to increased tourism? How much money would these hiking visitors spend? Would it create more jobs?
Should we therefore expect that tax cuts will lead to a greater increase in GDP through the feedback loop compared to government spending? Well, we have to remember that not all tax cuts will be spent immediately, according to the marginal propensity to consume. In a recession some workers will be pessimistic about the future and save the money. Will tax cuts compensate workers who are working shorter hours? Greg suggests that tax cuts might actually be more potent than government spending according to current research.
“Textbook Keynesian theory says that tax cuts are less potent than spending increases for stimulating an economy. When the government spends a dollar, the dollar is spent. When the government gives a household a dollar back in taxes, the dollar might be saved, which does not add to aggregate demand.
The evidence, however, is hard to square with the theory. A recent study by Christina D. Romer and David H. Romer, then economists at the University of California, Berkeley, finds that a dollar of tax cuts raises the G.D.P. by about $3. According to the Romers, the multiplier for tax cuts is more than twice what Professor Ramey finds for spending increases.
Why this is so remains a puzzle. One can easily conjecture about what the textbook theory leaves out, but it will take more research to sort things out. And whether these results based on historical data apply to our current extraordinary circumstances is open to debate.”
So the current research indicates that one-dollar of tax cuts can increase G.D.P by $3 compared to an additional dollar of government spending increasing GDP by $1.40. But why is there such a large difference? Is this related to the arguments about the efficiency of increased government spending? The verdict is still out and we may need to wait till the next global recession to find out.
Below is a picture of the aptly named Bridge to Nowhere located in the central North Island of New Zealand. It was built by the government in a spending splurge in the 1936 to open up land in the area. The land is now no longer fertile or accessible and all access to the area is cut off except for this concrete relic. The area is now popular with trampers.
Discussion Questions:
- How do economists calculate the multiplier?
- What are leakages from the circular flow that reduce the multiplier effect?
- Explain the link between the accelerator model and the multiplier.
- What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
- Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
About the author: Andrew is an International School educator based in Singapore, who specialises in teaching Economics and leading change in a 1:1 Apple laptop environment. He enjoys teaching the International Baccalaureate curriculum and has taught the Diploma Economics course to both Higher and Standard Level students. Previously Andrew taught in New Zealand as a Geography and Economics teacher and eLearning coach. He is an adventurous New Zealander, who enjoys running, travelling and spending time with friends and family.
Andrew is currently the head of Educational Technology at the United World College of Southeast Asia. Read more posts by this authorRelated posts:
- How big is the government spending multiplier in America? Well, it depends on which economist you ask…
- A must read for AP Macro teachers: Paul Krugman explains why deficit spending during a recession does NOT cause crowding-out
- The Costs of the Bailout, More Government Debt
- Obama – probably not a “supply-sider”
- Macroeconomy a major focus in Bush’s final State of the Union address
How do economists calculate the multiplier?
When injections are increased (investments, exports or government spending), the aggregate demand is therefore increased which will increase a firms output. When more output is produced, more income will be distributed to households by firms. Households will then have more money to spend on goods and services, which will additionally increase aggregate demand.
What are leakages from the circular flow that reduce the multiplier effect?
Leakages are factors that prevent the income that households earn not being spent again. Savings, taxes and imports are factors that decrease the expenditure on goods and services. If these leakages are higher than the injections, the national output falls.
Explain the link between the accelerator model and the multiplier:
The accelerator model is a matter to the multiplier effect! The accelerator model increases the national output even more. First like explained before by the multiplier effect, injections increase consumers income, which will lead to their rise of aggregate demand and therefore which will boost the national output. Additionally through the acceleration process firms will invest to keep up with this rising demand of consumers and therefore, since investments are part of injections start the process of the multiplier effect again, which will more and more increase national income.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
The multiplier effect for leakages (taxes, imports) will be less than for injections (investment, exports), since the government will cut taxes to increase consumer spending.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity
Increasing disposable income would only lead to a greater consumption when the injections are higher than the leakages. Only then the fiscal stimulus was successful. Additionally, corporate taxes can be increased to enjoy higher tax profits. Also investment projects from governments themselves can surely increase the demand curve and could also make this policy successful.
Still it is hard to estimate how much spending a government has to do to insert the right stimulus. A stimulus will only be effective if the government dept can be resolved afterwards.
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1. You can calculate the multiplier two different ways: The first one is 1/ MRL, where MRL is the marginal rate of leakage and the second one is 1/(1-MPC), where MPC is the marginal propensity to consume.
2. Leakages from the circular flow are peoples' savings and imports. Savings result in income money which is not spent further in the economy and the purchase of imports are not counted towards the country's GDP which doesn't cause it to change.
5. The idea of fiscal policy is to stimulate the economy in bad times. A nation's aggregate demand which measures the total spending on goods and services in a period of time at a given price level and can also be seen as its real total output which is made up of 4 components: Investment, Consumption, Government Spending and net Exports. In a recession, household's consumption, the investments made by firms and net exports are decreasing. Therefore, the government decides to increase government spending known as fiscal stimulus to balance out the effect of a decrease of the other 3 components on the nation's GDP.
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Economists calculate the multiplier effect two different ways. Once is dividing 1/1-MPC and the other is 1/MRL. The MPC is the Marginal Propensity to Consume, which is the proportion of any change in income used to consume domestically produced output. This can be obtained by dividing the Change in Consumption over the Change in Income. The other way of obtaining the multiplier is by obtaining the rate of leakage, which is the proportion of any change in income saved, used to pay off debts, or to purchase imports. Once the MRL is found then the multiplier effect can be obtained by 1/MRL.
Leakages that leave the circular flow are savings and imports. Savings are leakages because it is income money that is not spent in the economy. The purchase of imports is a leakage because the money used for that purchase does not go towards the circular flow of that country, it goes to the country that exported that good.
Fiscal stimulus can be very effective if implemented properly A fiscal stimulus is basically an injection of money from the government into the economy. This is a form of government spending. The goal is to increase consumption, which would then increase investment and would finally increase GDP. This method can only be successful if implemented properly. If too little money is spent by the government then consumption will not increase that much. If too much is spent then the opposite will happen. A fiscal stimulus does not necessarily mean that people will consume more because of the fact that they have more money. If they are not confident enough then they will not consume the money, they will save it for the future.
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The multiplier is calculated by 1/MRL, the marginal rate of leakage. MRL is equal to 1-MPC, the marginal propensity to consume. The marginal propensity to consume is the change in consumption/ the change in income.
Leakages from the circular flow that reduce the multiplier effect are savings, imports and taxes. Imports are counted on another countries GDP, savings are not brought back into the circular flow and taxes are kept by the government.
Fiscal policies increase aggregate demand by lowering taxes or the government itself increases their spending. By lowering taxes the people have more disposable income to spend on other things and therefore consumption in an economy increases. Governments can also spend money so that more jobs are available which also increases consumption and as a result changes aggregate demand.
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1. The multiplier is calculated by an estimate of how increased injections will effect consumers and households. If there are more government injections into the economy people will feel more confident in consuming and the aggregate demand will increase, which will increase companies output. Once output increases households will feel "richer" and feel more confident and spend more money, which will increase aggregate demand even more.
2. Leakages from the circular flow are when households save the money instead of spending it one goods. This will reduce the multiplier effect because the money will be there but if now one spends it, then aggregate demand will not increase.
3. Fiscal policy model can be very effective during a recession. It is like a big injection into the economy by the government, where they also reduce taxes, which will make households and consumers feel richer. Once people start feeling like they have enough money to go spend, they will start consuming again which would "jump start" the economy. More money will start circulating the economy and households will feel more confident to start spend money again. GDP and aggregate demand will increase and the economy will start restoring itself. The multiplier has a similar effect on the economy because it gives households confidence to start spend money again.
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What Theresa is trying to say above, in reference to the first question is: when the government puts money into the economy, it results in more growth in gdp then the amount they put in due to the multiplyer. Yet the quesiton is clearly how this effect works. (I'm not being mean Theresa, you really need to know this for the test coming up) The multiplyer effect depends on the marginal propensity to consume. Otherwise known as the proportoin of income spent on consumption by households. Governments gather statistics about what proportion of the money is saved (Marginal rate of leakage) and by deviding 1 by that proportion they calculate the multiplier. I agree with Theresa that some factors of leakages are savings, imports and taxatoin, yet she did not mention the repayment of debts which is also important. The accelerator model is caused by the multiplier effect, allowing the gdp growth to accelerate due to the injection of government spending. Injections into investment and export receipts would look like reductions in intrest rates and duty tax rates. Theresa concluded that the multiplier would be lower for tax cuts then for govermnent spending. Yet though her answer is accurate to Keynsian theory, in reality, the figure shows tax cuts having almost three times as much of a multiplier effect as direct government spending, so I will agree with the data. Fiscal stimulus is vital, since though it is ineffitient, and the economy would correct itself eventually anyway, it creates a structure in which our economies will stabalize and grow. We do not have time to wait for the alternative to work, nor the brutality to abolish minimum wage laws to let the economy self correct. The stimulus package is the only option left to governments, and its a good investment, since if for every dollar they spend they increase GDP by 3 dollars, that means there are now two dollars which have been created, and which will build on themselves for years to come. Over time the government should be able to repay much of the debt.
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The multiplier is calculated using the Marginal Propensity to Consume (which is the change in income divided by the change in consumption) in the following equation: 1/ (1-MPC).
Marginal Rate of Leakage is the money that isn't used in consumption, but instead is lost as a result of saving, spending on imports, paying off debts. It can also be used to calculate the multiplier effect (1/MRL). Evidentally, MRL + MPC = 1
Fiscal stimulus is important during a recession to help stimulate economic activity, primarily consumption and investment. However the main factor that assures a successful multiplier effect is the confidence in the consumers who have the choice of either spending most of their income, or saving it. The fiscal stimulus might especially not be as successful during a recession, during which people's confidences in the economy are so low that they tend to save more than spend.
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1) To calculate the multiplier effect you have to understand the marginal propensity to consume and the marginal rate of leakage. The marginal propensity to consume is the portion of a change in income spent on domestically produced output. It is calculated by the change in consumption divided by a change in income. The marginal rate of leakage is the opposite, it is the portion of this change in income saved. In total both of them added equal 1. The spending multiplier is calculated by 1 divided by MRL. This is the amount that the nation results with after the government spending takes place.
2) Leakages include people saving their money and purchasing imports (since these are not goods that have been produced within the country which means they are not part of the real output, or GDP.)
5) Fiscal stimulus is effective depending on the society. If it is a society that are more prone to spend rather than save when there is an income raise, then a fiscal stimulus will be very effective. According to this article, it depends how much of this fiscal stimulus is government spending and how much is tax cuts. Supposedly, tax cuts increase the GDP by a greater amount than government spending. However people can save up on the money they do not spend on taxes, while the money the government spends is spent, so this theory contradicts these studies.
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1. How do economists calculate the multiplier?
The multiplier can be calculated by dividing 1 by MRL (MRL = Marginal Rate of Leakage). Another way of finding the multiplier is by dividing 1 by 1-MPC (MPC = Marginal Propensity to Consume).
2. What are leakages from the circular flow that reduce the multiplier effect?
The leakages in the circular flow are saving your money and buying foreign goods, imports. This is so because the money you are receiving could be used to purchase goods and help the economy grow, stashing this money in fact slows the economy down. Purchasing imports is a leakage because the money you are paying for that specific good does not go to the nation's income, but rather to another one's.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
A fiscal stimulus is what the USA is fueling its economy with at the moment. This is theoretically very useful because this goes under G, government spending, and hence increases aggregate demand with it. By increasing aggregate demand, consumption as well as investment. This however does not always achieve this result, as in the USA right now. People do not feel confident enough to spend their money and therefore prefer to stash it. Overall, the entire economy is dependant on confidence, if the people do not feel confident enough to purchase goods and servcies, then economy will slow down as their spendings slow down.
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1. Calculating the multiplier: 1/ MRL, where MRL is the marginal rate of leakage
2. Leakages from the circular flow are savings as well as imports. Savings is income that is not spent and therefore not put in the circular flow. Imports add to the GDP of the country where the product was bought from but not to the domestic GDP.
5. When households consumption, firms investment and net exports are too little, the big G, the government tries to boost GDP with a fiscal injection. This might help the GDP to increase for a while, but besides GDP, the government also increases its debt. That is what the Obama administration is doing at the moment. In the long-run the Government might have to increase taxes or do other unpleasant things to achieve the money that they need to pay back.
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The multiplier is calculated using the following equation: 1/(1-MPC), where MPC equals the marginal propensity to consume. The marginal propensity to consume can be described as the change in consumption divided by the change in income.
The leakages from the circular flow that reduce the multiplier effect are the money that is kept as savings, as well as imports (which are counted in another country’s GDP) and money that is used to pay off previous debts or mortgages.
A fiscal stimulus is very important during a recession because it will stimulate households to consume more and firms to invest. However, a big part of a recovery is confidence. Even if a government increases spending during a recession, they expect a certain amount of confidence to be restored. If it does not occur, the stimulus will have no effect on the economy and more money will be saved rather than spent.
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Economists calculate the multiplier with the following formula
m=1/(1-MPC)
The circular flow leakages are savings, taxes and imports
It is impossible to tell whether the multiplier effect would be greater for investment, exports or government spending. It depends on the amounts involved and the reaction of the consumers, firms and everyone else in terms of confidence.
Fiscal policy seems to be an effective way to increase a nations GDP. Although returns might not be huge, 1.5-3%, they are also low risk.
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1) The multiplier is 1/MRL marginal rate of leakage ( the proportion of income that is not used for spending) This multiplier basically tells how much the government has to spend on its fiscal policy.
2) MRL includes savings, taxes, imports, depts.
3) The multiplier effect makes induced investment accelerate. For instance a firm will have the incentive to increase its capacity by investing in new plants so that they can deal with an increase in demand due to a fiscal policy.
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There are 2 ways to calculate the multiplier effect one is, 1/MRL where mrl is the marginal rate of leakage. And the other way is 1/1-MPC where MPC is the Marginal Prosperity to Consume.
The leakages in the circular flow can normally be due to 2 things, Saving and buying imports. When people save, they take the money out of system, and this decreases the multiplier effect because if for example the Government gives everyone $100 to help boost the economy and if every saves $80 then there will only be $20 dollars will be put into circulation. The other leakage is through buying imports, if you buy imports you no longer are boosting your own economy but that of another therefore their is a leakage.
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When the governments and firms increase their investments and government spending, the Ad increases and allows firms to maximize their output. Since more is being produced, more will be consumed which means there is more money flowing around. All the money that is spent goes to household as income. Now that everyone’s income has increased the Real GDP will go up, household will be able to by more goods or services and therefore aggregate demand will increase more as well.
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1. Economist calculate the multiplier by finding the proportion of income not used on spending, 1/MRL. This number indicates to governments how much must be spent on fiscal policy.
2. Leakages from the circular flow that reduce the multiplier effect include savings, taxes, and imports.
3) The accelerator model is directly affected by the multiplier, people and firms will have more incentive to spend causing the multiplier to change if the governments pump money into the economy.
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1.) Economists calculate the multiplier in two different manners. 1/ MRL, where MRL is the marginal rate of leakage and the second one is 1/(1-MPC), where MPC is the marginal propensity to consume give us the multiplier.
2.) Savings and foreign imports are leakages from the circular flow diagram. Savings is the income people do not inject into the economy again. The purchase of foreign imports counts to the foreign country’s GDP, not the country where it is being bought.
5.) Fiscal stimulus is very effective in increasing or keeping GDP up. Currently the US is doing this, and it is keeping the GDP from falling, but it is also increasing the countries debt. Obviously the hope is that the multiplier effect will increase the GDP more than how much is injected.
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1. We calculate the multiplier using either 1/MRL where; MRL = marginal rate of leakage, or 1/(1-MPC) where; MPC is the marginal propensity to consume.
2. Leakages from the circular flow are savings and foreign imports. Savings are money that never gets into the economy, and imports give benefits, in terms of GDP, for the exporter not the importer.
5. The effects of fiscal stimulus depend entirely upon the people of that country. Because they reply on the multiplier effect, if people don't spend the extra cash the fiscal policy is giving them, but rather save them then the effects will not be felt. If the people of the nation do as is intended with the fiscal policy then they will be very effective.
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The equation for the multiplier is 1/marginal rate of leakage (MRL) and MRL, in turn, = 1- marginal propensity to consume (MPC) which is the chang ein either income or consumption in an economy.
Savings (are kept by the consumers) , taxes (are collected and kept by government), imports (go to the other countries GDP) and exports are all leakages from the circular flow which causes a reduction in the multiplier effect.
The government can increase it's spending which will increase confidence and should then increase consumption and investments again. Taxes can also be lowered in order to give a more disposable income to people who will thn invest or consume more.
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1. How do economists calculate the multiplier?
They use an analysis of the percent increase in real GDP when government money is injected into the economy. They use a ratio form in order to determine how much each dollar spent increases the GDP.
2. What are leakages from the circular flow that reduce the multiplier effect?
The main leakage from the multiplier effect is the marginal propensity to save. When consumers receive a dollar, they won’t spend all of it. They’ll save some of it. Another leakage is money that’s spent on imports. These will reduce the effect that something such as tax cuts will have on the economy.
3. Explain the link between the accelerator model and the multiplier.
While government spending and tax cuts undergo the multiplier effect which encourages consumers to spend, the accelerator model explains how an increase in GDP will encourage firms to invest more. Both are additions to the initial injections into the economy.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would probably be fairly similar. I would guess, though, that they would be smaller. Government actions seem to me to be the most effective policies that can change the level of GDP.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
I think to a certain extent, fiscal stimulus can increase the level of economic activity. Government spending and tax cuts will undoubtedly push aggregate demand to the right and are useful tools for during a recession. At the same time, though, we cannot rely completely on government fiscal stimulus. Getting consumers to spend and firms to invest is the most important thing. Without this, no economic recovery can occur and inflation cannot be successfully combated.
Trevor Tezel
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1. The multiplier is calculated using the formula 1/MRL, where MRL is the marginal rate of leakage. MRL is equivalent to 1 minus MPC, where MPC is the marginal propensity to consume. The marginal propensity to consume is the change in consumption divided by the change in income.
2. The leakages from the circular flow that reduce the multiplier effect are factors that prevent the income that households earn from being spent again within an economy. These tend to be taxes, imports and savings. If leakages are greater than injections into an economy, the result will be a fall in national output.
3. The relationship between the multiplier and the accelerator is that they are both additions to the original injections into an economy. The multiplier compounds the effect that an initial amount of government spending or cuts in taxes has on consumer spending, and the accelerator is the extent to which a boost in GDP resulting from government spending can encourage firms to invest.
4. It would really depend on the composition of the economy. For example, if it was a mainly export based economy, then probably the multiplier would be larger than if the country produced most of its goods and services.
On the whole, however, I think that multipliers for taxation and/or government spending would be higher than other injections, because taxation has an affect on every individual and organization, and only the government has the power and the resources to act on a very large scale to produce significant changes. Of course, this also depends on the level of government involvement in the economy.
5. I think that fiscal stimulus should be used with care and the timing should be well judged. It would be unwise to for the economy to be too reliant on stimulus from the government. Also, demand-side policies tend to be good for boosting an economy out of a recession, whereas supply side. I also think that, in the short run, fiscal stimulus can like tax cuts and subsidies can help the AD curve shift to the right. However, in the long run, I think that, given the scarce resources we face, long run aggregate supply is inelastic, so that demand will eventually revert back to equilibrium level, albeit at a higher price level.
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Dear Trevor,
I agree with you that getting consumers to spend and firms to invest is important on getting an economy back on track during a recession. I think maybe why the government has such an important role during the recession is because recessions are fueled or made worse by a lack of confidence in the economy; no rational person or firm is willing to take the risk to invest or consume when they are unsure of economic conditions or the economic future. So I suppose that by using fiscal stimulus, the government is essentially underwriting an economy in the hope that this will give people greater confidence.
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1. Economists calculate the multiplier by dividing the eventual change in GDP by the amount of the injection into the economy.
2. Some leakages from the circular flow that reduce the multiplier effect are saving, spending on imports, and taxation.
3. As the multiplier model shows disproportionate effects of government injection on changes in GDP and the accelerator model shows disproportionate effects of changes in GDP on investment, the two may be linked together to state that government injection disproportionately affects income.
4. Multipliers for export receipts and investment would exist, but they would be lower than multipliers for taxation or government spending because spending is based more on these direct changes to income than on other, smaller changes to the business cycle as a whole.
5. Fiscal stimulus can help to increase the level of economic activity. However, many people choose to save stimulus packages, especially in a time of recession. Therefore, direct government spending may be more effective in stimulating the economy.
Chamonix
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Marc,
I liked how you noted that fiscal stimulus can cause national debt. I would say that this is also true for government spending. This makes understanding of the multiplier effect vital. If governments are going to either directly spend money or inject funds into the economy, they must be sure that the returns will be great. This makes stimulus packages very appealing, although individuals may save the money instead of spend. However, the multiplier effect is less assured on direct government spending, which may mean that the returns are not great enough to make government investment worthwhile. This helps to make the government much more aware of the urgency of these decisions.
Thanks,
Chamonix
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1. How do economists calculate the multiplier?
Dividing the change in GDP by the amount of the injection into the economy.
2. What are leakages from the circular flow that reduce the multiplier effect?
They could be savings people usually have, or spending on imports.
3. Explain the link between the accelerator model and the multiplier.
Well, as government spending has a multiplier effect of increasing the GDP by more than what was spent, the increase in GDP increases investment by more than what the GDP grew. Thus government spending increases GDP and GDP increases investments.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would be lower, since changes in GDP are derived from what people consume, which is more affected by changes in income than anything. Thus, as government measures affect much more people's wages, they will have a greater multiplier effect than exports or investment.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus is useful when going out of a recession, since they boost aggregate demand, but after economic growth has been achieved, they only create inflationary pressures.
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Chamonix,
Well, I think we do not agree on the effects of fiscal stimulus, as we totally wrote the opposite. It's true that people tend to save some of the stimulus packages in a recession, but the rest works to boost aggregate demand (in addition, I dont know how you could save government spending) Moreover, after leaving the recession, these policies would in fact be dangerous, since as I said, they create inflationary pressures, demand growing too fast compared to supply, a and dragging a recession threat again.
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1.How do economists calculate the multiplier?
The multiplier is calculated by dividing the change in GDP by the amount of the injection into the economy.
2.What are leakages from the circular flow that reduce the multiplier effect?
Leakages are money that is not spent to increase the GDP. This includes saving and spending on imports.
3.Explain the link between the accelerator model and the multiplier.
The multiplier shows the disproportionate effect of government spending on GDP, and the accelerator shows the disproportionate effect of changes in GDP on investment. This means that through both effects, government spending can have a disproportionate effect on investment.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would be lower. Because government spending is a component of GDP on its own, as well as affecting consumer spending through incomes, it has a disproportionate effect on GDP. Investment and exports do not affect consumer spending as much, so the multiplier is smaller.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus can increase government spending and consumer spending, both components of aggregate demand. However, the increase in consumer spending is dependent on the amount of leakages from the circular flow. If a lot of people save money they get from lower taxes rather than spending it, then the effect will be lessened.
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Marcelo,
You mention the potential long-term threat of inflation, as maintaining fiscal stimulus during economic growth can cause aggregate demand to continue increasing even at the point of full employment. This is clear in the current worries among many governments about when to end stimulus. The general conclusion thus far is that is should be sustained until the recovery takes hold. After that, you are right in that this policy will be inflationary.
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How do economists calculate the multiplier?
Economists calculate the multiplier by dividing the change in GDP by the change in injection. The general formula is (1/1) – MPC where MPC = Marginal Propensity to Consume which is equivalent to 1/MPS where MPS= Marginal Propensity to Save.
What are leakages from the circular flow that reduce the multiplier effect?
The leakages from the circular flow refer to the outflow of capital from the domestic economy. It can occur in the form of consumption on import goods or income saving.
Explain the link between the accelerator model and the multiplier.
Accelerator Theory refers to the fixed investment into the economy that would lead to proportionally larger change in the level of national income. Investment into certain industry increases the aggregate demand of machinery and labor necessary for the firms especially when the economy is near full employment and requires an expansion.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that multipliers for taxation or government spending would bring a larger effect into the economy because of its large-scale expenditure on various sector, whereas, the injection into export receipts or investment – smaller-scale injections – are concentrated to certain industry so the overall change at the level of national income would be small relative to government expenditure.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus brings a fair amount of increase in the level of economic activity. Large-scale government expenditure and investment into specific sector would shift the aggregate demand curve to the right and increase the national’s output and demand. It is especially effective when the economy is under recession where unemployment are mainly caused by deficiency of demand.
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@Marcelo
Haha. I agree that you can't really save govenrment expenditure. I think what she meant was that people would tend to save their income (which comes indirectly from the government through multiplier effect), caused by the inflationary pressure due to increase in AD.
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1.How do economists calculate the multiplier?
Dividing the change in GDP by the amount of the injection into the economy.
2.What are leakages from the circular flow that reduce the multiplier effect?
Money spent that doesn't increase the GDP. If we consider the circular flow then this is money spent on imports and people saving money.
3.Explain the link between the accelerator model and the multiplier.
The multiplier is where government spending has a disproportionate effect on the GDP and an accelerator has the same effect yet the It is a fixed investment into the economy which reaps the reward of higher national income. They both increase the the GDP disproportionately.
4.What would multipliers for other injections such as export receipts or investment look like?
Would they be higher or lower than multipliers for taxation or government spending?
There is a much greater effect through the use of multipliers for taxation as this can be spread across all sectors within an economy and will cause that disproportionate rise in the GDP. If we only considered injections like export receipts than this will have a smaller scope than the taxation and therefore will have a smaller effect than government spending or taxation.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal policies are usually used in times of economic depressions where we see that aggregate demand is very low. Now theses fiscal polices are very good at stimulating the market and increasing the demand so that the demand cure shifts right and we see an increase in the output and supply.
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Hi Masaya,
Great well thought out answer that clearly defines and answers the questions in quite some detail. I definatley agree that fiscal policies are at there most effective when in a recession because we see large unemployment and low demmand these policies will lead the out of recession but if used to long can cause inflation.
Dan
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Masya,
Your analysis seems spot on. Since there's little room for opinion on these discussion topics I think it would be difficult to offer any criticism or discussion. You seem to understand the concept of the multiplier, accelerator, and fiscal stimulus. Looking at the rest of the posts, it seems like everyone has come to the same "evaluation." Fiscal stimulus does help increase aggregate demand and will get an economy out of a recession.
- Trevor Tezel
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1. How do economists calculate the multiplier?
Economists can calculate the multiplier with the formula 1/marginal rate of leakage. The marginal rate of leakage is 1-marginal propensity to consume. The final formula comes to 1/(1-mpc).
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages from the circular flow are savings and imports. Savings result in income that is not spent in the economy making it a leakage, as well as imports because the money used for imports does not go into the circular flow of the country meaning it does not affect the multiplier.
3. Explain the link between the accelerator model and the multiplier.
The link between the accelerator model and the multiplier is that they are both additions to the original injections into an economy. The multiplier adds the effect that an initial amount of government spending or cuts in taxes has on consumer spending while the accelerator model is how the increase of GDP resulting from government spending can encourage firms to invest.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would probably be similar to the previous injections, but also probably smaller.
Government actions are the most effective policies that can change the level of GDP.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus works very well when it comes to the increase of GDP. On the other hand, it also increases a country’s debt, but the hope is that the multiplier effect will increase the GDP to more than what was initially injected.
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Daniel,
I like your answer to questions 4, you're right, export receipts would have a smaller scope than taxation and would have a smaller effect than government spending. However, i think that government spending is sometimes more necessary as it can lead to better economic development
Sara
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Economists calculate the multiplier by dividing the change in GDP by the amount of the injection into the economy.
Examples of leakages from the circular flow could be savings people accumulate, or spending on imports.
As government spending has a multiplier effect of increasing the GDP by more than what was spent, the increase in GDP increases investment by more than what the GDP grew. Thus government spending increases GDP and GDP increases investments.
Multipliers for other injections would be lower since GDP changes are derived from what people consume, which is affected more by changes in income than anything else. Thus, as government measures affect more people’s wages, they will have a greater multiplier effect than exports or investment.
Fiscal stimulus is useful when going out of a recession, since it boosts aggregate demand, but after economic growth has been achieved, it can only create inflationary pressures.
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Sara,
You mention the potential long-term threat of inflation, which is a clear in the current worries among many governments about when to end stimulus. The general conclusion thus far is that it should be sustained until the recovery takes hold. After that, you are right in that this policy will be inflationary.
-Dennis-
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Discussion Questions:
How do economists calculate the multiplier?
1/(1-MPC)
What are leakages from the circular flow that reduce the multiplier effect?
Savings, Import payments, Taxation
Explain the link between the accelerator model and the multiplier.
The link between the accelerator model and the multiplier is that they are both additions to the original injections into an economy. The multiplier adds the effect that an initial amount of government spending or cuts in taxes has on consumer spending while the accelerator model is how the increase of GDP resulting from government spending can encourage firms to invest.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They will have a similar effect but the government actions are the most effective to the level of GDP.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus works very well when it comes to the increase of GDP. On the other hand, it also increases a country’s debt, but the hope is that the multiplier effect will increase the GDP to more than what was initially injected.
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1. Economists calculate the multiplier by dividing the eventual change in GDP by the amount of the injection into the economy.
2. The main leakage from the multiplier effect is the marginal propensity to save. When consumers receive a dollar, they won’t spend all of it. They’ll save some of it. Another leakage is money that’s spent on imports. These will reduce the effect that something such as tax cuts will have on the economy.
3. The accelerator model is directly affected by the multiplier, people and firms will have more incentive to spend causing the multiplier to change if the governments pump money into the economy.
4. They would probably be fairly similar. I would guess, though, that they would be smaller. Government actions seem to me to be the most effective policies that can change the level of GDP.
5. The effects of fiscal stimulus depend entirely upon the people of that country. Because they reply on the multiplier effect, if people don’t spend the extra cash the fiscal policy is giving them, but rather save them then the effects will not be felt. If the people of the nation do as is intended with the fiscal policy then they will be very effective.
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Sara,
You mention the potential long-term threat of inflation, which is a clear in the current worries among many governments about when to end stimulus. The general conclusion thus far is that it should be sustained until the recovery takes hold. After that, you are right in that this policy will be inflationary.
Laura
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1. Economists calculate the multiplier of government spending to GDP by dividing the change in the GDP versus the amount of money spent by the government
2. Leakages from the circular flow represent money being saved and such which leads to the loss of the money from the flow. More or less the money is pocketed by one owner as opposed to being passed on to keep moving. This negatively affects businesses.
3. The accelerator model of Governmental Spending is directly affected by the multiplier arguing that increasing governmental spending will lead to an increase in incentives for companies and firms to work.
4. Multipliers for other injections would most likely be smaller due to the fact that straight government spending is more likely to be evenly distributed into the economy
5. I would argue that a Fiscal Stimulus is a very effective plan to increase the level of economic activity. This is its primary purpose and by increasing the amount of money in the fiscal cycle this leads to an increase in GDP and economic activity.
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Laura:
It's interesting how much you see the fiscal stimulus as depending upon the individual people involved. Do you think there are any ways to encourage people to spend the money they receive and educate them or do you think it is easier and more successful to just let them (the people) spend it.
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1. Dividing the change in GDP by the amount of money spent
2. They might be savingsof people.
3. The spendings by the government has a multiplier effect of increasing the GDP by more than what was spent,this causes an increase in investment. Meanign the spending by the government cuases an increase in GDP and investments.
4. They would be siimilar to the former spendings, but mostlikely. The government actions are the most effective policies that can change the level of GDP.
5. Fiscal stimulus is an aid to recover from recession as it boosts aggregate demand, but after economic growth has been achieved, they only create inflationary pressures.
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Hi Marcelo,
In your question 4 I agree that these will be lower, but I think they will reamin just abi lowe than the former, meaning similar to the previous spendings.
Armando
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1. How do economists calculate the multiplier?
Economists do so by taking the the change in GDP and dividing it by the total money spent by the government.
2. What are leakages from the circular flow that reduce the multiplier effect?
The saving of capital by a consumer or business, as capital does not continue to flow throughout the circular flow.
3. Explain the link between the accelerator model and the multiplier.
The link between the accelerator model and the multiplier is that they are both linked to the initial injections into an economy. The multiplier sums up the effect that an initial amount of government spending or cuts in taxes has on the consumer behaviour. i.e. spending
While the accelerator model is how the increase of GDP results from government spending can encourage firms to invest.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would have the same affect, however government spending reaches out to everybody so it in theory it would have more effect.
# Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity
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How do economists calculate the multiplier?
They look at for every dollar spent by government or every dollar cut from taxes and how much it affects the GDP.
What are leakages from the circular flow that reduce the multiplier effect?
The tax cut leakage is that people might save money and not consume therefor AD does not increase.
Explain the link between the accelerator model and the multiplier.
Accelerator model encourages firms to invest where as multiplier encoourages households to consume.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would look the same to previous injections and the government spending would be spread across the economy.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
It helps with raising AD, therefore helping a country out of recession. It can also have problems where people start to have too much money and consume too much creating inflation. This could lead to an inflationary spiral.
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1. How do economists calculate the multiplier?
The multiplier is essentially an estimation of the ways in which increased injections (money spent by the government in a positive way) affects consumers. The more injections, the more confident people will be and the more they will purchase. This leads to an increased company output for any specific company. That in turn leads to further increase in aggregate demand because people continue to feel confident.
2. What are leakages from the circular flow that reduce the multiplier effect?
A leakage is when households refrain from spending their money, by saving it in a safe or putting it in a bank account. This means that the money does not re-enter circulation, and is therefore a ‘leakage’.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model and the multiplier both state that an increase in monetary assets encourages increased spending. Economic injections cause both of these phenomena.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
There is no way to know, but I think that they would be higher for taxation and government spending because these seem like the more effective methods of increasing output.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
It is sometimes effective, but other times it does not affect people’s inclinations to increase their purchases. Sometimes, people will just take the extra money and save it happily. This would render fiscal stimulus not functional.
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Response to Armando:
Where did you read that you divide the GDP by the amount of money spent? I did not see that anywhere. I am not saying you are wrong but I am a bit confused.
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Comment to Theresa Mehl:
Although by increasing taxes the government may benefit from higher tax profits, surely this decreases disposable income, as you’ve noted, which in return decreases consumer expenditure, along with aggregate demand. This eventually leads to a decrease in the level of economic activity in a nation. Government spending debts however would not be repaid if such taxes were not imposed; a vicious cycle. Perhaps government spending, although it may seem appealing at first, is not the best form of stimulus the government can employ to stimulate its nation’s economic growth.
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1. How do economists calculate the multiplier?
In order to calculate the multiplier, economists may refer to several methods, amongst which is measuring the effect of different policies or economic changes in aggregate demand. More precisely, economists have come up with formulas such as the Keynesian multiplier formulas which measure how much the aggregate demand (an endogenous variable in this case) curve shifts left or right in response to exogenous factors which influence spending. This may enable them to evaluate the effect of certain policies on aggregate demand in a certain nation, or of certain economic situations, thus providing a fair idea as to what measures should or shouldn’t be implemented.
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages are defined as any income which is not passed on in the circular flow, or income received but which is not used to finance expenditure on goods and services produced. Examples of leakages are savings, imports, and taxes, which all reduce the multiplier effect since this money does not directly participate in the circular flow of income, and decreases consumption of goods, which shrinks profits, forcing producers to cut their investments in the factors of production (investment is an injection in the circular flow), thus reducing output, GDP, as well as the multiplier effect. National output also falls if the leakages are greater than the injections in an economy.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model revolves around investment of all sorts as the main source of acceleration in the increase of output or GDP. The multiplier on the other hand holds that spending, regardless of whether it may be initiated by the government, firms, or households, make up the national income of a country. Both the accelerator model and the multiplier are inevitable ‘functions’ in the circular flow of income in a nation: investment and expenditure. Government investment increases, thereby boosting consumer income which increases aggregate output or aggregated demand. Net investment increases, thus repeating the cycle.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
This is quite difficult to determine… However I would think that multipliers for both injections as well as taxation or government spending would be quite similar since they’re both equally important and have equally significant impacts on a nation’s circular flow of income, and therefore output or GDP.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
In Keynesian economics, it is stipulated that fiscal stimulus such as government spending would be more efficient and effective in increasing the level of economic activity since the money which the government spends is undoubtedly spent, as in invested in one project or another, thus increasing aggregate demand. Another form of fiscal stimulus is tax reduction, especially during recession, with the objective of boosting incentives and real profit/ real income to increase consumption and investment, thereby stimulating aggregate demand. According to the Keynesian model, taxes are deemed to be a less effective form of fiscal stimulus since the money which is no longer paid in taxes may be saved by the households, thus increasing the leakage in the circular flow of the economy. However, the statistics collected recently seem to prove otherwise: the multiplier for tax reduction seemed to be higher than that for government spending in relation to the increase in GDP or aggregate demand. At times, excess government spending may lead to a more indebted government which is forced to increase taxes in order to repay it, thereby reducing the disposable income of the population in question, which decreases consumer expenditure on goods and services, also making aggregate demand shrink. Therefore, although government fiscal stimulus is effective in increasing the level of economic activity, in contrast to the theory stated in Keynesian economics, tax reduction appears to be the most effective way of stimulating economic activity thus far.
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1. How do economists calculate the multiplier?
Basically multiplier can be calculated in two ways. The first one is 1/ MRL, where MRL is the marginal rate of leakage and the second one is 1/(1-MPC), where MPC is the marginal propensity to consume.
2. What are leakages from the circular flow that reduce the multiplier effect?
There are several leakages from the circular flow that reduce the multiplier effect such as people saving their money and purchase import goods. This is a leakage because the person is spending money to buy foreign goods which benefits foreign economy and not the person’s own nation.
3. Explain the link between the accelerator model and the multiplier.
The link between the accelerator model and the multiplier is that multiplier effect lets included investment accelerate. Therefore the accelerator model is directly affected by the multiplier because businesses will have more incentives to produce more multipliers.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Multipliers for export receipts and investment would be lower than multipliers for taxation and government spending. Government impose tax on almost every products made in the country and they tend to spend a large amount of money for government spending. According to the theory of multipliers, multiplier is higher than government spending. Therefore, they will be higher than export receipts or investment.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity
Fiscal stimulus is believed to be useful in a sense of create multiplies in an economy. It can increase both component of aggregate demand government spending and consumer spending. Government spending in a large amount will shift the aggregate demand curve to the right and therefore will increase the nation’s output and demand as well.
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@sundos
4. You said that multipliers for both injections as well as taxation or government spending would be quite similar since they’re both equally important and have equally significant impacts on a nation’s circular flow of income. I think differently. I agree that they both are important but since tax is imposed on almost all products within a country so both government spending and taxation are a large amount of money flow. so i think they are little heavier than injections
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1. How do economists calculate the multiplier?
Economists calculate the multiplier by adding up the positive feedback loop of the spending cycle induced by the investment and subtracting leakages such as the amount that went into private savings.
2. What are leakages from the circular flow that reduce the multiplier effect?
A major source of leakage from the circular flow is savings. In a stagnant economy when people get pessimistic, government spending may end up in the vaults by their citizens because they’d like to save up for their uncertain future.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model is simply put, the fundamental concept of the multiplier effect taking full impact in an economy. The injections through government spending will increase consumer income which in turn increases the aggregate demand and therefore increase the national output. These series of events ‘accelerate’ in a cyclical manner resulting in economic recovery.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think the multipliers for export would be higher than multipliers for government spending because government spending entails an opportunity cost while profit made from exports is a true ‘injection’. Government expenditure needs to derive its budget from a source which will have its funds deprived. If that is not the case, then the government will simply have to borrow money from overseas.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
I agree with the theory that government expenditures will induce a multiplier effect and help raise the economy out of recession. However, I do feel that a stimulus package does have its limitations in that there are potential leakages which could undermine the recovery.
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@Armando
5. You said that fiscal stimulus packages are not effective when it does not alter the people's disposition to purchase. How do you think this can be remedied?
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1.How do economists calculate the multiplier?
They measure the GDP for a given year, and see how much the government spent that year by subtracting all other factors then they see how much, in %, of the GDP the government intervention was worth and see hpw much this percentage is worth in money terms.
2.What are leakages from the circular flow that reduce the multiplier effect?
These leakages could come from taxing and savings, if the consumer starts to save up the money, then this money only contributes to that individual and not to the multiplier effect; also the increase in tax means the government obtains more money and less is used that year in the market.
3.Explain the link between the accelerator model and the multiplier.
The accelerator model is much like the multiplier model, except here it is a rush of investment in capital and machinery (businesses). The accelerator model is most likely triggered by the multiplier, as a rise in consumption of a company's products will lead the company to an increase in production, which results in increased investment; because the ,multiplier model is cyclic so will the accelerator, more and more purchases result in more and more investments.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Most likely theyu would be lower, as it is harder to publicize a local market in the global market, than it is whithin itself. If one year there is a fashion trend to buy mexican sombreros outside mexico that will lead to a multiplier in injections where exports increase which results in an investment increase. Unfortunately this trend might stop in a few months and so the effect is lower, as it soon dosappears. Within the local market it is easier to keepthe effect going, as the trend can be publicized further at lower costs.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
On a long term effect it seems to be quite effective, as you can raise the GDP by 3$ with every government $ spent, and this in large quantities over a few years will have quite a large effect. On the other hand, because results are not that large in value, in the short run these results are not so visible and so they do not seem to encourage much production, also the consumer needs to be aware of the change, so that they can alter their habits in the expected way, to meet this GDP rise. Even so it seems like a simple stimulus with a good purpose which is actually effective, and because Macro-economies take time to build, a long term project is a good project.
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Response to Won_Woo_Choi:
1. I think that I understand what you mean here, but it is quite vague, you are basically saying that the answer is just there and they have to look at all the factors in the economy and subtract the injections and thats it. If the government is responsible for the starting of the multiplier, shouldnt it be a comparison between what was invested and what was gained?
2. Here I said the same as you did.
3. The accelerator model, according to my research, is actually more or less the multiplier one, except that it is related to businesses and them investing in capital and their production capabilities; this model is caused by the multiplier model, as it is the multiplier that stimulates an increase in production.
4. I understand what you mean, and agree, even though that is not the same answer as I have put down. However what are the opportunity costs the government faces that make so much less valuable when faced to true injections?
5. I once again agree with your answer, but if the leakage factor due to savings shows a higher increase than the one maintained in the circular flow of the economy, your point is really contradicted.
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1. How do economists calculate the multiplier?
The first calculate what the GDP of the country is. Soon after the government will do one of two things, either spend money, or cut taxes. After one of these actions is performed they will wait a month and see what the new GDP is. The increase in the GDP will determine the multiplier.
2. What are leakages from the circular flow that reduce the multiplier effect?
The most important leakage from the circular flow is savings. Many people thought that theoretically if the government cut taxes giving consumers extra money, that they would save that money, and therefore the GDP would not increase. This, however, was proven incorrect when finding out that the multiplier was times 3 when taxes were cut.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model takes into account investments when calculating the GDP, while the multiplier takes into account expenditure by all parties such as consumers and the government.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
This is a very hard subject to gauge without actually experimenting evidenced by the fact that many did not think tax cuts would produce as high a multiplier as it did. In my opinion export receipts or investments could create higher multipliers than government expenditure; however, a multiplier of 3 seems rather high and hard to reach for other components.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
I am a big believer in the Keynesian theory in that the government must get involved if it wants to revive an economy. By the looks of it, it is very hard to predict what kind of multiplier will arise when the government takes certain actions. I believe they should test every option to see which gets the best multiplier in order to prepare for the future if and when a recession occurs again.
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@Frederico
Your answers are very well developed throughout your comment. I especially liked the part of your answer in question five about making consumers aware of the actions the government is taking. If the consumers know that the government is reducing taxes and that if the consumers spend more money that the recession will slowly fade away, they may feel more incline to spend those extra dollars.
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1.How do economists calculate the multiplier?
• As we read from the blog the multiplier is the key component of Keynesian theory. Economists use different formulas to calculate the multiplier. One main method can be by calculating the final change in GDP and divide it by total amount of money the government has spent.
2. What are leakages from the circular flow that reduce the multiplier effect?
• Leakages are referred to the non-consumption use of income. In the circular flow leakages are combined with injections to identify aggregate output. The money saved by consumers which are not spent at all and this leads to the loss of money from the flow which is negative for the firm.
3.Explain the link between the accelerator model and the multiplier.
• The accelerator model is affected by the multiplier significantly because the multiplier will increase governmental spending which will lead to an increase in motivation for businesses to continue to work.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
• In my opinion government spending would be higher compared to taxation even thought they both kind of have the same levels, but government spending will affect more.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
• Fiscal policies are used many times especially during economic depressions. Fiscal stimulus stimulates the market by increasing demand significantly. It increases the output
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@Mitchell:
Very well done on your comment. In the last question it is good how you put yourself into it which shows you have experience and you know about the Keynesian theory well.
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1) How do economists calculate the multiplier?
Economists look at the GDP of a country at any given point. Then once the government has spent some money on the country or given tax cuts to people economists will look at the GDP again. To calculate the multiplier they can figure out how much the GDP has risen relative to each dollar the government spent or gave in tax cuts.
2) What are leakages from the circular flow that reduce the multiplier effect?
The major leakage from the circular flow is due to savings when people receive money back from the tax cuts. If people are worried about the economy’s future, or just want to add a little more money to their retirement plan for example, the money the get back from tax cuts is leaving the economy.
3) Explain the link between the accelerator model and the multiplier.
The accelerator model takes into account investment while the multiplier model takes into account consumption and spending. They are part of the same cycle because an increase in consumption due to government spending will lead to an increase in businesses investing because they have more money and the cycle will revolve around more and more consumption and more and more investment.
4) What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think that exports or investments would result in higher multipliers. It seems like government spending comes from money, which came from taxpayers so the money starts in the US. For exports and investments the money is received from other countries.
5) Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus seems to have worked in the US to recover from the recession. The stimulus bill implemented has helped many companies threatened by bankruptcy and some of these businesses are doing well now. GM for example was filing for bankruptcy. The government allocated some of the money to GM and now they are recovering even faster than some people thought and paying the US back sooner than they were expecting. It seems like someone, the government, has to do something to make the people feel secure enough to increase their economic activity.
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@Mitchell
Why do you think that export receipts or investments would create a higher multiplier than government spending? I decided the same but I was just wondering what your reasoning was for that choice.
Noah
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1. How do economists calculate the multiplier?
Economists calculate the multiplier by looking at a nations' increase in injections, for example government spending, investments and exports, which result in an increase of the aggregate demand. The higher these injections are, the higher the level of the multiplier, which then yields greater values.
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages from the circular flow which reduce the multiplier are taxation, public and private savings, and imports; which are all factors that have a negative effet on the output.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
As the article states, "…we find that when the GDP expands, less than a third of the increase takes form of private consumption and investment." By this, we can understand that the multiplier of the investment is much lower than that of government spending or taxation. This also has to be seen in the context of the economy, as if for some reason the economy is characterized by a very high rate of interest on investments, people will have the incentive to invest their money, and the multiplier in this case would be really large. Same thing has to be seen in regards to exports, as if a nation is a large exporter, the multiplier for the given nation will be higher than that of a nation which has very little or no exports.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
With a fiscal policy, a nation is able to adjust the levels of the aggregate supply and aggregate demand curves. They can do so by increasing or decreasing either government spending or taxation. Government spending has a positive effect on output, therefore in government spending is increased, the output will be larger, and would increase economic activity. On the other hand taxation has a negative effect on output, and we can see that in the formula (where consumption at time zero is multiplied by the output minus taxes), therefore, if taxes are reduced the output in the end would be larger, increasing the economic activity.
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1. How do economists calculate the multiplier?
Economists use the Marginal Propensity to Consume to calculate the multiplier while using the formula 1-MRL (Marginal Rate of Leakage). Marginal Propensity of Consumption is the change in consumption versus the change in income.
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages from the circular flow is money being saved because it will not return to its regular flow when it is pocketed and not spent.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model has the power to change the multiplier. If government spending increases, this is an incentive for firms to purchase more and more investments.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Multipliers for other injections such as export receipts and/or investments would be lower because consumer spending is directly related to income and income is defined by government taxation. They would be higher than multipliers for taxation and government spending though.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus' are often effective in aiding an economy when there is a high unemployment rate and/or low income rate however it is a short term solution and is not effective in the long term if consumers choose not to spend the money. (Example: Stimulus under President Obama, USA which was not spent as much as it was intended to)
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@Noah
I disagree with you in regards to your example in question 5. I disagree with you because the stimulus was not extremely effective in reducing the hurt of the recession among consumer like you and I because, for the most part, we chose to save the stimulus money in fear of an increasingly worse recession. However I do agree with you in regards to stimulus helping large companies. This is because they spent the stimulus money after declaring bankruptcy.
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1. How do economists calculate the multiplier?
The multiplier an estimation of the ways in which increased injections affects consumers. Higher level of injections means a more confident consumer base which will purchase more and higher output by firms. This leads to an increase in aggregate demand.
2. What are leakages from the circular flow that reduce the multiplier effect?
A leakage is when households save instead of spend their money. The money therefore does not enter the circulation.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model and the multiplier both say increases in monetary assets and encourages increased spending. Economic injections cause both of these models.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I have no idea but it is more likely that they would be higher for taxation than government spending because it contributes towards more spending.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Saving seems like a popular option when receiving fiscal stimulus thus making fiscal stimulus irrelevant.
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1) How do economists calculate the multiplier?
Economists look at the GDP of a country at any given point. Then once the government has spent some money on the country or given tax cuts to people economists will look at the GDP again. To calculate the multiplier they can figure out how much the GDP has risen relative to each dollar the government spent or gave in tax cuts.
2) What are leakages from the circular flow that reduce the multiplier effect?
The major leakage from the circular flow is due to savings when people receive money back from the tax cuts. If people are worried about the economy’s future, or just want to add a little more money to their retirement plan for example, the money the get back from tax cuts is leaving the economy.
3) Explain the link between the accelerator model and the multiplier.
The accelerator model takes into account investment while the multiplier model takes into account consumption and spending. They are part of the same cycle because an increase in consumption due to government spending will lead to an increase in businesses investing because they have more money and the cycle will revolve around more and more consumption and more and more investment.
4) What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think that exports or investments would result in higher multipliers. It seems like government spending comes from money, which came from taxpayers so the money starts in the US. For exports and investments the money is received from other countries.
5) Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus seems to have worked in the US to recover from the recession. The stimulus bill implemented has helped many companies threatened by bankruptcy and some of these businesses are doing well now. GM for example was filing for bankruptcy. The government allocated some of the money to GM and now they are recovering even faster than some people thought and paying the US back sooner than they were expecting. It seems like someone, the government, has to do something to make the people feel secure enough to increase their economic activity.
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1. The multiplier is a measure of the effect that boosts the output result compared to the input spending. You would assume that every dollar put in to the economy leads to every dollar that comes out (as the GDP) but this does not occur, when a government spends, sometimes more comes out. Economists calculate the multiplier by seeing how a recent in/decrease in tax or change in government spending affects the GDP. They see how every dollar put into the economy comes out.
2. One main leakage from the circular flow that reduces the multiplier effect is consumer saving from tax cuts (i.e. reductions in tax) as consumers save their income thus taking it out of the flow in the economy. Another leakage is government taxation (contractionary fiscal policy) to generate revenue for increased government spending. This causes consumers’ income to leave the flow as well.
3. The accelerator model is a model measuring the investment by firms, whilst the multiplier measures the consumption and consumer spending. They are linked as increased spending by consumers, will lead to greater business confidence and thus greater investment by firms into the economy. Thus the multiplier and accelerator model are linked in a cycle of some sort.
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4. Other injections such as exports or investments would result in higher multipliers than that of taxation or government spending as they are independent of consumption and government spending.
5. Fiscal stimulus is basically the addition of money into the economy to help the economy recover from any time of recession or economic downturn. By increasing the amount of money spent into the economy, the level of activity should increase. Fiscal stimulus may act as subsidies to firms and producers, encouraging them to lower prices (thus lowering the price level in the economy) which will create a new macroeconomic equilibrium point where the real output will be greater and more will be consumed in the economy. Increased government spending also increases aggregate demand in the economy.
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Nice responses overall. Do you feel that government increasing of taxes is another leakage to the circular flow as income is being taken out of the economy? I agree with you that fiscal stimulus can help the level of economic activity in a country to increase. What do you feel about if that such fiscal stimulus- through tax cuts, was given but people saved instead of spent? What would happen to the economy then?
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1. Economists calculate the multiplier by repeating the remaining amount of the one dollar, where it is divided by the total marginal rate of leakage, MRL, which is the total amount of marginal rate of save, mrs, marginal rate of taxation, mrt, and marginal propensity of import, mpm, added together.
2. Leakages from the circular flow are taxes, imports, and savings. Together, they are the marginal rate of leakage that the multiplier divides with. Therefore, the higher these numbers are, mpm, mrs, mrt, the lower the multiplier will be.
3. The accelerator model contains the multiplier effect of investments by the firms, where the investment undergoes the multiplier caused by a rising demand.
4. Multipliers for exports or investments would be fairy lower than that of the multipliers for taxation or government spending. Taxation and government spending are more direct injections/leakages of the circular flow than exports and investment, where they might consider doing something else such as imports or savings. Thus the taxation and government spending are multiplied, and will have better multiplier effect than that of exports and investment, where a consideration might change (lower) the effect of the multiplier.
5. Since fiscal stimulus changes taxation and government spending to chance the AD and GDP of a nation, the multiplier effect will increase the effect of a single increase done by the government using the fiscal stimulus. Therefore, fiscal stimulus with the multiplier effect will be very effective.
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Government actions are more direct to the circular flow, where it would have a better multiplier effect than the repeating flow of the normal civilians. Normal people would act rational and consider other things than using up the income they gains to prolong the multiplier effect. Therefore, government spending and taxation are more effective than exports and investments.
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1. How do economists calculate the multiplier?
Economists, calculate the multiplier by dividing the overall ,expected, change GDP of the country by the injection to the economy, which causes the multiplier, e.g.; government spending.
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages are defined as the non-consumption uses of income, in this case; savings, taxes, and spending on imports would all serve to reduce the multiplier effect.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model theory refers to the fixed investment into the economy that would lead to proportionally larger change in the level of national income, while the (fiscal) multiplier is the ratio of a change in national income to the change in government spending that causes it. The two are linked in having the similarity that they both deal with the disharmony in incomes caused by government injections.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think that injections for taxation and government will always outweigh that of other multipliers because the magnitude of these injections is a lot higher. Furthermore, changes in overall economic activity are related to changes in the individual incomes of people, which can be swayed by government spending and taxation rather than exports or investment. This further suggests that the multiplier for government will outweigh that of other injections.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus' are usually employed by governments in times of low economic output, usually depression, to increase economic output, and graphically shift the aggregate demand curve to the right. Fiscal policies have shown signs of being effective in improving economic stability, in the short run, by reducing taxes, and providing incentives that encourage consumers to spend. However, in the long run, these fiscal policies can result in economic dependence, which is not a good thing for the health of the economy.
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Your answer to number was very well worded and overall well written, i particularly like the first sentence; "To calculate the multiplier effect you have to understand the marginal propensity to consume and the marginal rate of leakage". It lets you get into the background of the multiplier effect. Well done!
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1.How do economists calculate the multiplier?
They calculate how much GDP expands as an effect of government spending by dividing change in GDP by change in government spending.
2.What are leakages from the circular flow that reduce the multiplier effect?
Savings and taxation.
3.Explain the link between the accelerator model and the multiplier.
The accelerator model deems that, as GDP increases, investment will increase even more proportionately, because firms are encouraged by economic expansion to invest more. This is linked to the multiplier because, as government increases spending, GDP will increase even more proportionately speaking because of the accelerator model.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe they would be lower than multipliers for taxation (T) or government spending (G) because, ultimately, these are the only “artificial” injections (that come from outside the free market). In short, when T is reduced or G is increased, this will increase AD, which will increase GDP, which will stimulate investment and exports (because they can achieve more competitive prices), which will increase GDP and so on. When injections come as export receipts or investment, they will cause increased GDP, but they will not cause increased G or reduced T, so essentially this is a lower multiplier than starting with G or T as injections.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
While fiscal stimulus may be a greater multiplier than investment injections, it may take a crucial lag time to have an effect on economic activity – by the time it kicks in, the recession may be ending -, it takes a lot of time for a fiscal package to be decided on by the government – since it is difficult to reach a consensus as to what the money should be spent on, and precisely that, WHAT the money is spent on, highly determines the effectiveness of the stimulus. If it is spent on something useful for the nation, it is more effective in the long-run – i.e. building a major highway may stimulate economic activity in a new geographical location, but building a “bridge to nowhere” as in NZ” won’t be as effective – , but if it’s spent on bridges to nowhere, then it may be a larger problem for the government to deal with debts in the future.
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I appreciate your clear answers to questions 3 and 4!
I would like to build on your answer to 4 adding that government spending is a higher multiplier because, like you mentioned in 3, "through both effects (accelerator + multiplier) government spending can have a disproportionate effect on investment", while the opposite is not true. Increased investment will not lead to increased government spending, since government only interferes with fiscal policy when it needs to fix something in the economy, not when it is doing well on its own.
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•How do economists calculate the multiplier?
As the multiplier is the rate that shows the effect of injections on the economic development, this calculation is done by dividing the figure of change in GDP by the figure of change in injections.
•What are leakages from the circular flow that reduce the multiplier effect?
The ones mentioned in this blog are saving and taxes. However, spending on imported goods also is a leakage that reduces the multiplier effect.
•Explain the link between the accelerator model and the multiplier.
Increased injections such as government spending increase the price level in the economy; therefore we get a higher GDP. This is the multiplier effect. This in turn leads to the conclusion of the accelerator model as it says that an increase in GDP causes an increase in Investment. As investment also is an injection, it also supports the multiplier effect which again supports the accelerator, et cetera.
•What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would be lower because they affect consumers less. Taxation and government spending, however affect consumers directly.
•Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
The fiscal stimulus is an effective way to stimulate economic activity as it means that there is more government spending and this will clearly increase the GDP in the economy.
Basically, the fiscal stimulus introduces the multiplier effect and therefore I believe that this is a good method.
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1.How do economists calculate the multiplier?
The multiplier is calculated by dividing effect of government spending by government spending itself.
2.What are leakages from the circular flow that reduce the multiplier effect?
They are taxtations, savings and imports.
3.Explain the link between the accelerator model and the multiplier.
The multiplier calculates how much consumption is increased through government spending, while the accelerator calculates how much investment is increased through government spending. They boost each other in the big economy cycle, as an increase in investment causes an increase in consumption, and the increase in consumption causes an increase in investment.
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4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
They would be lower than taxtation and government spending. Taxtation and government spending directly affects households, compared to exports and investments and consumption makes up a big part of AD. Hence, I think that T and G would bring higher multipliers.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
It is effective, however, it takes time for the effect to show. People won’t necessary change spending habits at the point of tax cuts/raise. Also, behaviors of human aren’t totally predictable. Hence, it may not bring the predicted effect if people don’t give the reaction as wanted.
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Hi Allan Gramacho,
Great post. But I would like to disagree on the point that E and I would bring higher multipliers. I think that T and G affects consumption more directly, which is a big component of the AD.
Vicky=]
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1) Economists calculate the modifier by dividing how much the GDP has changed by the amount of money and income that has been injected into the economy.
2) Leakages from the circular flow that reduce the multiplier effect would be either consumption or over-consumption of imported goods or excessive saving, or even savings in general.
3) The multiplier determines how much government spending or injections increases consumption, while the accelerator determines the amount by which investment increases as a result of government spending or injections.
4) Multipliers for other injections such as export receipts or investment would be lower because they would have less of a direct impact on consumers. On the other hand government spending and taxation both affect consumers directly, though in slightly different ways.
5) Fiscal policy tends to be introduced and implemented during times of recession and sometimes has mixed results. However, I think that it has proven (in this case) to be very effective in increasing demand and stimulating the economy.
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1.How do economists calculate the multiplier?
Economists calculate the multiplier by showing the possibility of a given increase in injections, such as government spending, investment and exports, and increasing aggregate demand by more than the initial value. To calculate, the economists would look at the GDP of the nation at a point, and when GDP changes they take that change and divide the value by the change in the government spending (injection).
2.What are leakages from the circular flow that reduce the multiplier effect?
The leakages from the circular flow that reduce the multiplier effect are increased imports, savings, or anything that takes out the money from being active within the circular flow of the economy. Government increasing tax and reducing government spending is "saving" too, and this is a leakage from the circular flow.
3.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Multipliers for other injections such as exports receipts or investment would be lower, as consumers are not directly influenced. Whilst taxation and government spending does directly influence the consumers, because other injections including export receipts or investments have indirect influence, the multipliers would be lower.
4. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
It all depends case by case, but though fiscal policies are often applied and implemented, they do not always work out. Often times, fiscal policies work as an effective stimulus to the economy, and is sufficient in increasing aggregate demand. But we need to keep in mind that sometimes fiscal policies rather bring negative effects, such as rise in unemployment rate.
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How do economists calculate the multiplier?
Economists calculate the multiplier by dividing the change in GDP by the change in injection. The general formula is (1/1) – MPC where MPC = Marginal Propensity to Consume which is equivalent to 1/MPS where MPS= Marginal Propensity to Save.
What are leakages from the circular flow that reduce the multiplier effect?
The leakages from the circular flow refer to the outflow of capital from the domestic economy. It can occur in the form of consumption on import goods or income saving.
Explain the link between the accelerator model and the multiplier.
Accelerator Theory refers to the fixed investment into the economy that would lead to proportionally larger change in the level of national income. Investment into certain industry increases the aggregate demand of machinery and labor necessary for the firms especially when the economy is near full employment and requires an expansion.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that multipliers for taxation or government spending would bring a larger effect into the economy because of its large-scale expenditure on various sector, whereas, the injection into export receipts or investment – smaller-scale injections – are concentrated to certain industry so the overall change at the level of national income would be small relative to government expenditure.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus brings a fair amount of increase in the level of economic activity. Large-scale government expenditure and investment into specific sector would shift the aggregate demand curve to the right and increase the national’s output and demand. It is especially effective when the economy is under recession where unemployment are mainly caused by deficiency of demand.
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Daniel Yang
How do economists calculate the multiplier?
Economists calculate the multiplier by dividing the change in GDP by the change in injection.
What are leakages from the circular flow that reduce the multiplier effect?
The leakages from the circular flow refer to the outflow of capital from the domestic economy. It can occur in the form of consumption on import goods or income saving.
Explain the link between the accelerator model and the multiplier.
Accelerator model is the fixed investment in the economy that would lead to proportionally larger change in the level of national income. Investment into certain industry increases the aggregate demand of machinery and labor necessary for the firms especially when the economy is near full employment and requires an expansion.
What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Export receipts or investment multipliers would have a lower effect than multipliers for taxation or government spending. This is because taxes and government spending causes large scale expenditure on multiple sectors, while other injections are focused on specific industry and won’t have much change.
Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus increases the level of economic activity to a certain extent. Large-scale government expenditure and investment into specific sector would shift the aggregate demand curve to the right and increase the national’s output and demand. It is especially effective when the economy is under recession where unemployment are mainly caused by deficiency of demand.
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oh and I forgot to add my answer to one question so here it is:
5. Explain the link between the accelerator model and the multiplier.
The link between the accelerator and the multiplier is that they both are additions to already made injections to the circular flow of the economy. In other words, we can also say that the accelerator model is influenced by the multiplier. If government spending increases, it is only natural that the motives of further production and more firms being actively working increases.
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Hello!
Nice post here, sara!
I agreed with many responses that you put here in my post but I have several points and a question for you.
For leakages, wouldn't government increasing tax along with lessening of government spending also be a leakage? If the government collects more tax and uses less of it, then those tax revenues that government does not spend and rather keeps is part of 'savings'.
For your response for number four, I think it will be lower, because while injections such as export receipts is not likely to directly influence the consumers, taxation and government spending would.
Also for number five, what do you say to those cases that fiscal policies do not always work? What is your opinion on that?
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1.How do economists calculate the multiplier?
Multipliers give us a measure of the effect of a change in the economic situation such as a fiscal multiplier which is used to measure a change such as fiscal policy on the Aggregate supply. Firstly economists use formulas such as the Keynesian multiplier which measures the effect of changes on the Aggregate demand. An example of how economists calculate is that they would have to take a nation’s GDP and then when a change takes place this value would then have to be divided by the injections.
2.What are leakages from the circular flow that reduce the multiplier effect?
Leakages are basically uses of income other than consumption such as taxation, savings and imports these forms of income are not passed on the circular flow of income, this is one of the reasons as to why these leakages really reduce the multiplier effect. They reduce the multiplier effect because the money does not flow so therefore fewer goods are purchased thus reducing net profit. With taxation there is less overall aggregate demand as the prices of goods increase and therefore less individuals have the disposable income to purchase everything they use to. Looking at savings the income does not flow and therefore AS and AD are reduced causing a decrease in the multiplier effect.
3.Explain the link between the accelerator model and the multiplier.
The accelerator model and the multiplier model are linked in the sense that the accelerator model (deals with investments) somewhat relies on the multiplier. The multiplier measures consumer spending as whole therefore if the spending increases or decreases the accelerator model will receive a proportional effect as more or less investments will take place based on the consumer spending as firms may gain more or less confidence this explains the link between the two.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
In my opinion it is truly dependent on the nation that is being dealt with, ideally they should all be equally important but the fact is that most economies are not like this. It is true that most countries are strongly affected by the government’s choices they would generally be higher than multipliers for injections such as export receipts or investment. We must keep in mind however that some countries heavily rely on the injection of export receipts there for in this case it will be higher than the multipliers for taxation or government spending.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal Stimulus essentially being a situation at which the government increases its expenditure and lowers taxation so as to boost the economic activity. The problem is that the effectiveness of fiscal stimulus is unknown before it is applied and may even result in negative effects to the economy. The way it is typically thought is that this injection to the economy will boost the economic activity as the aggregate demand will increase due to increased consumer spending and therefore an increase in output also takes place. With great levels of government spending, the government will slowly get into debt which will have to be paid off through taxation therefore decreasing aggregate demand. As you can see it is not a long lasting increase in the economic level but it is quite effective in the sense that the economic activity will increase.
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I found your responses quite detailed and clear, for the first response I like how you looked at being how every dollar put should to every dollar coming out, and how it is not exactly like that. As for you third response I had quite a similar response in that the accelerator model is linked to the multiplier in a similar way as you stated. For the fourth response do you not believe that certain countries have different situations in the sense that the country may not rely on export receipt at all? Do you agree that in the long run this level of economic activity may decrease proving the effectiveness of fiscal stimulus to be ineffective in certain situations?
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1. How do economist calculate the multiplier
Economists, calculate the multiplier by examining the nations change in interjection such as government spending, investments, and personal spending, which are all components of aggregate demand.
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages such ash taxation, public and private savings, and imports may lead to the reduction of the multiplier effect
3. Explain the link between the accelerator model and the multiplier
They are trying to achieve similar goals as part of the same cycle; however, the accelerator model focuses on account investments when calculating GDP; while the multiplier focuses into the expenditure by all groups such as the consumers and government.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that exports and/or investments will result in similar multipliers with taxation and government spending because all three components are very significant in the nation’s income. So the multiplier will not deviate from each other as often.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimuli are used by governments in situations where there is low economic progress such as low output and demand in order to increase the progress. However, if people do not used these benefits from the fiscal policy, but rather save it, it will become a policy that is ineffective.
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I like your answers they are simple and straight forward. However I disagree with answer number 4. I think that the the results will be lower because the largest influence on GDP has government and therefore multipliers for taxation or government spending have higher values.
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Hi Sara,
I see your point and nice job here. However, can you list those government actions that are the most effective in order to change the GDP?
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I like your post because you explain all of your opinions, but I don't agree on all of your answers. Don't you think that investment and exports have a much smaller effect on each individual than e.g. taxes? I do think so and I think that this is important for the effect of the multiplier.
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1.How do economists calculate the multiplier?
Economists calculate the multiplier by calculating the marginal propensity to consume (the amount of money that is spent out of a certain amount of income). The multiplier is 1/(1-mpc).
2.What are leakages from the circular flow that reduce the multiplier effect?
Saving, imports, and taxes reduce the multiplier effect by taking income out of the circular flow.
3.Explain the link between the accelerator model and the multiplier.
The accelerator model refers to the positive effect of economic growth on firms and their investment. Due to rising GDP and subsequent expectations of rising profits, firms will feel more confident about expanding capacity. The multiplier effect will compound this investment, since increased consumption will result in increased consumption which will result in increased investment.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
Most likely, multipliers of exports and investment would be less than the multipliers of taxation/government spending, since they would be less likely to beget a chain reaction like consumption does for consumption. However, it depends on the economy in question. If a nation has a strong consumer tradition, then government spending/taxing income will most likely have the greatest multiplier effect. If consumerism does not play as great of a role in the economy, investment or exports may have greater multipliers.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus will directly add income to the circular flow. Because of the multiplier effect, this income could have a much greater impact than just an additive effect to the circular flow. In other words, fiscal stimulus will most likely have an effect far beyond its immediate expenditure in the circular flow. Therefore, if fiscal policy is decisively managed, it can have a far reaching impact on increasing the level of economy activity.
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@elijah.echl.f09
I'm interested in how "fiscal stimulus is a very effective plan to increase the level of economic activity." Do you think that fiscal policy would nearly effective without the multiplier effect? Similarly, can mismanagement of policy reduce the impact of fiscal spending? I.e. the government does not get as much 'bang for its buck.' Is the effectiveness of fiscal spending guaranteed or must the money be put in the proper place?
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1. How do economists calculate the multiplier?
To find the multiplier, economists divide the estimated change in the Gross Domestic Product (GDP) by the injection which flows into the economy, by doing so the economists are able to find the multiplier.
2. What are leakages from the circular flow that reduce the multiplier effect?
Some leakages that reduce the multiplier effect are savings, imports, and increasing tax in a sense it is anything that detracts money from the circular flow.
3. Explain the link between the accelerator model and the multiplier.
The accelerator model and the multiplier effect differ in that the accelerator model is a fixed investment that would result in large change in the level of national income, however the multiplier is a compromise between national income and change in government expenditure that causes it.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
In my opinion I think that injections of taxation and government spending will overpower other multipliers because they are the most prominent of all. In retrospect multipliers such as national income are altered due to taxation and government spending.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
The fiscal stimulus is a way to introduce money into the economy, by doing so it brings back the cycle of the economy, this then brings back aggregate demand, and as demand increases there will a supplier
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1.How do economists calculate the multiplier?
The multiplier effect simply studies on the effect of tax cuts or government spending in relation with the GDP of the nation. When trying to boost a nation’s economy, a government will record the GDP and the ratio between each dollar spent in tax cuts/government spending to the total output/GDP. This can give you a percentage change in decrease/increase by dividing the total output by the money spent from the government.
2.What are leakages from the circular flow that reduce the multiplier effect?
The main leakage that seems to reduce the multiplier effect would be savings. Firstly, as the economy is most likely in a downfall/recession and needs these fiscal/monetary policies, even if the consumers were given tax cuts they would most likely save their money. The annual GDP would show a lowered multiplier effect until the consumers have reached a comfortable level of consumer confidence and starting spending again.
3.Explain the link between the accelerator model and the multiplier.
Both the accelerator models and the multiplier effect try to boost economic growth. The accelerator model focuses more on the firm sector as it encourages firms to raise prices or invest more to meet the increased levels of demand. The multiplier effect focuses more on the household sector as it tries to boost economic growth and the GDP by encouraging consumption. I believe that both of these factors work simultaneously as the tax cuts/government spending would cause an increase in demand which would be followed by the increase in investments/prices to meet the new demand.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that to create multipliers in investments the government would simply lower the interest rates while subsidizing transportation costs for exports. Though, you have to approach this question by looking at all of the markets and how they are structured. I believe that the multipliers for taxation or government would still reign as the highest because the tax cuts would affect everybody. Though, if a nation’s GDP greatly depended on exports then their multiplier could be greater than government spending or taxation.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimuli such as increased public spending or lower taxation in theory should boost economic activity as it provides more encouraging conditions to consume and increases demand to invest or hire employees. Though, after studying the effects of public spending, these effects of increased economic activity might not be beneficial in the long run due to stagnant wages and inflation. It does though, increase employment as the government spending prompts firms to employ workers.
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I like your answers, they are easy to read and show your ideas. I like your answer for number 5, because it does matter whether the people try spend the money to get the cycle starting again. You enlightened me on that, so thank you.
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I had a little trouble on number 3. Would you replace "national income" with GDP? I also thought that the accelerator model dealt with increasing the nation's GDP by increasing prices or investments to deal with any increase in demand which would maximize revenue. Do you agree?
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1)The multiplier is calculated by dividing the change in GDP by the change in government injections.
2)Savings, imports and taxes are leakages from the circular flow diagram, as they remove money from the circular flow, so they reduce the multiplier effect.
3)The accelerator model deals with investments, into businesses and firms, while the multiplier is a measure of consumer spending. If the multiplier were to change, it would have an impact on the accelerator, as changes to the amount of money being spent would have an impact on the amount of money invested into businesses.
4)Export receipts and investment multipliers would generally be lower than government spending or taxation multipliers, as they are specific to a business or industry, so would have a much smaller impact on the economy as a whole. Taxation and government spending would have an impact over the whole community, so the multiplier would be larger.
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1. How do economists calculate the multiplier?
- Economists calculate the multiplier the overall, expected, change GDP of a country BY the injection (to the economy) this causes the multiplier. An example of this could be government spending.
2. What are leakages from the circular flow that reduce the multiplier effect?
- The following leakages (non-consumption of income) form the circular flow, would reduce the multiplier effect: taxes, savings and imports.
3. Explain the link between the accelerator model and the multiplier.
- The multiplier model takes into account consumption and consumer spending, whereas the accelerator model takes into account investment (by firms). An increase in the consumption will increase business confidence, and therefore more investing by firms will occur in the economy. This is why they are linked to each other.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
- Multipliers for other injections (such as export receipts and investment) would be lower. This is simply because consumer spending is related directly to income, which is defined by government taxation. However, they still would be higher than multipliers for taxation and government spending.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
- Fiscal stimulus is simply the addition of money that goes into an economy, which helps it to recover from e.g. recession. This is found very useful in many economies. Fiscal stimulus can increase both aggregate demand components; consumer and government spending.
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@Allan Gramacho
It looks like I would agree with you on almost everything, although we don't have the same answers. You have given a more thorough explanation on the first question, which in a way is very effective. You say in the question number 5 that fiscal stimulus "seems to have worked in the US to recover from the recession". Would this be possible in every country? If not, why?
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1. Economists calculate the multiplier by measuring the increase in GDP triggered by one dollar of government spending.
2. The multiplier effect is reduced by the leakage of saving, because consumers do not instantly spend after a tax decrease. If there is low confidence they will save the money which is no longer taken up by taxes.
3. Both the accelerator model and the multiplier effect demonstrate that a small decrease of taxation or increase in government expenditure can lead to greater overall spending in the economy.
4. Multipliers for other injections would probably not be as significant, because they would not affect all consumers. For example, profits from exports would only impact sellers, whereas a decrease in taxation would have an impact on most of the country.
5. From the article, this sort of fiscal policy does not seem very effective, as spending of one dollar only leads to an increase in GDP of $1.4. The multiplier effect of decreases in taxation has a larger effect (an increase of $3 for each dollar of tax reduced), but this still seems quite low without further statistics to compare it with.
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I think you've explained the article very clearly and concisely, and it was well pointed out that spending on imports is a leakage. I also really like how you have applied the idea of leakages to your evaluation at the end.
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1.How do economists calculate the multiplier?
Economists would calculate the multiplier by taking the ration between the increase in the GDP and the amount of money spent or lost in the fiscal policy.
2.What are leakages from the circular flow that reduce the multiplier effect?
The main leakage would be savings, as people who do not have faith that the economy will become more stable or wants to save in case of emergency will save money for the future.
3.Explain the link between the accelerator model and the multiplier.
Both the accelerator model and the multiplier measure the increase in GDP. However the accelerator model is more focused on firms while the multiplier on households. The accelerator model states that a rise in GDP is gained through investment, while the multiplier model is based on that an increase in spending will raise the GDP.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that the multiplier for government spending or taxation would be greater than those of investment and exports, because government intervention is spent to directly change the GDP and effects the entire country, and while investment would have a high GDP because it would lead to an increase in income in the long term, but only for those that invested.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus increases the level of economic activity by cutting taxes or creating businesses. This raises the demand as people now have more money to spend on buying goods, which in turn stimulates the economy and raises GDP. Overall fiscal stimulus are effective, although some methods are generally better than others.
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Hello, I agree with your response, although I have a question about whether the taxes should be considered a leakage in this case as they will be reused for fiscal policies in the future.
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1.How do economists calculate the multiplier?
Economics calculate the multiplier by calculating the change in GDP of an economy divided by the value of the injection into the economy.
2.What are leakages from the circular flow that reduce the multiplier effect?
The leakages from the circular flow that reduce the multiplier effect include: savings, taxes, and money spent on imported goods.
3.Explain the link between the accelerator model and the multiplier.
The accelerator model, depending on the specific circumstances, can influence the multiplier. An increase in government spending would act as an incentive for firms to invest more into the economy.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I believe that the multipliers for injections such as export receipts or investments would be lower than multipliers for taxation or government spending.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus can be quite effective to increase the level of economic activity. Fiscal stimulus can increase aggregate demand by increasing government spending and consumer spending. Aggregate supply always follows the trend of the aggregate demand curve, so the general level of economic activity would increase.
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Clatters!
I completely agree with your response to #5. With a fiscal stimulus, government expenditure would increase – this would increase aggregate demand. Supply always follows demand, right? So then the overall level of economic activity would increase…
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1. How do economists calculate the multiplier?
They divide the estimated change of the GDP by the amount of the injection (government spending, tax cut etc.)
2. What are leakages from the circular flow that reduce the multiplier effect?
Leakages in the circular flow model are Savings (S) and money that is spend on imports (M).
3. Explain the link between the accelerator model and the multiplier.
The accelerator model explains why a certain value will reach its aim faster with the time passing by. The model is also showing that people will spend more money on goods once the government started spending money. It is like a spiral. Increased demand will increase supply, the increased supply will lead to higher wages, which leaves people with more money. This money again increased the aggregate demand, and so on.
4. What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think they would look similar and would have about the same uncertain effect, as they, as the tax cuts and government spendings, depend on the consumer confidence.
5. Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Apparently, the effectiveness of fiscal stimulus to increase the level of economic activity depends on the consumers. If the government cuts back on taxes, people might just save the money or invest it in imports. On the other hand they can be really effective as it can be seen with tax cuts, that are more than double as effective as government spendings. There is no obvious reason for this.
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I think it is important to state that cuts in taxes can also effect the supply – side, as companies might be able to produce more at the same price. Therefore it would shift the whole equilibrium to the right.
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1.How do economists calculate the multiplier?
1.Economists calculate the multiplier by looking at how much the GDP has increased relative to the injection. Whether the injection be stimulus or tax cuts. This is done by dividing the change in GDP by the amount of new money introduced, the quotient gives the multiplier
2.What are leakages from the circular flow that reduce the multiplier effect?
1.Potentially leakages are people saving money or people just not spending money. Also government spending that is unnecessary like the bridge to no where.
3.Explain the link between the accelerator model and the multiplier.
1.The accelerator model states that speed at which an asset is moving towards its full value is exponential. That is to say that as time passes the rate at which it is moving increases. This can be used to show what looks like economic momentum where as only part of the economy is failing it can cause other parts to fail. Similarly the multiplier model shows how one investment and spur the growth of another.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
1.The multipliers for injections like exports or investments would be substantial. These things carry great weight within our economy. However, the weigh carried by taxation or government spending is the highest multiplier of all.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
1.This question really depends on whether one subscribes to neo-classical or Keynesian theory. From the article it appears that fiscal stimulus is not very effect in that it’s multiplied is only 1.4 where tax cuts have a multiplier of 3.
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Your comments on fiscal stimulus are particularly interesting. I think many of us consider fiscal stimulus just to mean increased government spending without necessarily lowering taxation. I'm not sure I agree though that it can negatively impact the economy. I think it can be nearly pointless like the bridge to nowhere, but still at least in a small way stimulates growth.
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1.How do economists calculate the multiplier?
The multiplier shows the ratio between the estimated GDP (Gross Domestic Product) and injections (investment, government spending) of a country. Dividing the injections by the gross domestic product gives us the multiplier which shows us the estimated GDP in dollars (or currency of that nation) for every dollar spent through injections.
2.What are leakages from the circular flow that reduce the multiplier effect?
Leakages are flows of income tat leave the circular flow of income. Examples of leakages are savings, imports and taxation. They reduce the multiplier effect as they cause the estimated GDP to go down. Savings mean that money is being saved instead of spent on products, therefore less is demanded and less is produced. Imports mean that money is going out of the country to pay for goods produced by that country, also reducing GDP in host country. Taxation also reduces demand as it reduces the real income of consumers.
3.Explain the link between the accelerator model and the multiplier.
The accelerator effect shows the growth in demand for a business’s product brought on by increased investment. This is linked to the multiplier effect as investment is an injection while the growth in demand leads to increase in GDP.
4.What would multipliers for other injections such as export receipts or investment look like? Would they be higher or lower than multipliers for taxation or government spending?
I think this would differ from nation to nation and that additional quantitative data would be required to measure the effects. However, I think that injections such as investment or export receipts would be less effective than taxation or government spending. This is because taxation and government spending affects the entire nation where as export receipts and investment only affect some.
5.Evaluate the effectiveness of fiscal stimulus to increase the level of economic activity.
Fiscal stimulus would mean to increase government spending and lower taxation for its citizens in order to promote increased demand and GDP. In theory this would promote increased consumer expenditure and lead to an increase in GDP for the nation. However, there are complications such as the government going into debt, money being saved by consumers and increased inflation.
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@Won_Woo_Choi
I thought your response to why government spending would be less effective as an injection was interesting. Government spending does have to come from a source, often the source being taxation. Also, the government goes in to debt (something prevalent in news). Your reasoning as to why exports were 'true' injections as opposed to government spending was good.
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@ctoantran2
Don't you think that perhaps fiscal stimulus could have negative effects for they may not always work and would have to be changed often as well. I personally think that there would be more of a risk with fiscal stimulus because the monetary policy would have to be adjusted to fit the economic situation just right and each situation is often unique and cannot accurately be determined until it is too late.
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@elijah.echl.f09
One instance of leakage is most certainly the savings. However, this is not the only example of leakage. If there is excess product or imports are being sold on a larger scale that is actually taking away from the domestic economy, these could be leakages as well.
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