Multiplier vs Accelerator

Definition

The multiplier and accelerator are key concepts in macroeconomic theory that describe the relationship between investment and overall economic output. The multiplier measures the change in total income resulting from an initial change in spending, while the accelerator reflects how investment levels change in response to changes in national income or output. Together, these concepts help explain how economies can experience amplified responses to fluctuations in demand and investment.

5 Must Know Facts For Your Next Test

1. The multiplier effect is calculated as the ratio of the change in national income to the initial change in spending, demonstrating how initial investments can lead to greater overall economic growth.
2. The accelerator effect suggests that increases in national income will lead to higher levels of investment as businesses expand to meet growing demand, creating a feedback loop.
3. While the multiplier focuses on the immediate effects of spending, the accelerator takes a longer-term view, emphasizing how sustained increases in output can trigger significant investment responses.
4. In a recession, the multiplier can be quite large due to underutilized resources, meaning that any increase in demand can lead to substantial income growth.
5. Understanding both concepts is crucial for policymakers aiming to stimulate economic growth, as they highlight different mechanisms through which government spending or investment can impact the economy.

Review Questions

• How do the concepts of multiplier and accelerator interact to influence economic growth during periods of increasing demand?
  • The multiplier and accelerator work together to amplify the effects of rising demand on economic growth. When demand increases, it leads to an initial rise in spending that triggers the multiplier effect, resulting in higher national income. As this income rises, businesses perceive greater opportunities for profit and increase their investment levels due to the accelerator effect. This synergy can lead to rapid economic expansion as both consumption and investment rise simultaneously.
• Evaluate the implications of a high multiplier effect in a recessionary economy compared to one experiencing growth.
  • In a recessionary economy, a high multiplier effect suggests that any government intervention or increase in spending can lead to significant boosts in national income due to underutilized resources. This means that targeted fiscal policies can be particularly effective at stimulating growth. In contrast, during periods of growth, the multiplier may not be as pronounced because resources are already being utilized efficiently, limiting the scope for further expansion without corresponding increases in investment from businesses influenced by the accelerator effect.
• Synthesize how understanding both the multiplier and accelerator can inform effective policy measures aimed at stabilizing an economy facing cyclical fluctuations.
  • Understanding both the multiplier and accelerator helps policymakers design effective strategies for stabilizing economies during cyclical fluctuations. By recognizing that initial increases in spending can generate widespread effects through the multiplier, policymakers might prioritize fiscal measures during downturns. Additionally, acknowledging the accelerator's role highlights the importance of fostering an environment conducive to business investment as incomes rise. This comprehensive approach allows for targeted interventions that leverage both immediate consumption boosts and longer-term investment trends to stabilize and stimulate economic activity.

Related terms

Keynesian Economics: An economic theory that emphasizes the role of government intervention and aggregate demand in influencing economic activity and output.

Aggregate Demand: The total demand for goods and services within an economy at a given overall price level and in a given time period.

Investment Function: A representation of the relationship between the level of investment spending and various economic factors, including interest rates and expected returns.