Question

Assuming that increase in investment is Rs1000 crore and marginal propensity to consume is 0.9, explain the working of the multiplier.

Answer 1

Given that

Value of MPC = 0.9

An initial increase in investment = Rs 1000 crore

So, every increase of Re 1 in the income, 0.9 part of the increased income will be consumed
by people.

Consumption= Rs 0.90

Saving= Rs 0.10

Round	Increase in investment ΔI	Change in income ΔY	Induced change in consumption ΔC	Savings ΔS
1	1000	1000	900	100
2	-	900	810	90
3	-	810	729	81
4	-	729	656.1	72.9
5	-	656.1	590.49	63.54
6	-	590.49	531.44	54.44
7	-	531.44	478.29	53.15
8	-	478.29	430.46	47.83
9	-	430.46	387.42	43.04
10	-	387.42	348.67	38.75
11	-	348.67	313.81	34.86
12	-	313.81	282.42	31.39
13	-	282.42	254.18	29.24
14	-	254.18	228.76	25.42
15	-	228.76	205.89	22.87
16	-	205.89	185.30	20.59
17	-	185.30	166.77	18.53
18	-	166.77	150.09	16.68
19	-	150.09	135.08	15.01
20	-	-	-	-
21	-	-	-	-
22	-	-	-	-
23	-	-	-	-
24	-	-	-	-
25	-	-	-	-
26	-	-	-	-
27	-	-	-	-
28	-	-	-	-
29	-	1.31	1.17	0.14
30	-	1.17	1.06	0.11
	Total	10000	9000	1000

The above shows the process multiplier which continues and the income will increase due  to increase in consumption

Changes in the income (AY)=Rs 10,000

Change in the investment (Al)= Rs 1,000

As we know that

`k = 1/(1-MPC) = (ΔY)/(ΔI)`

`k = 1/(1- 0.9) = (ΔY)/1000`

`1/0.1 = (ΔY)/1000`

ΔY = 10000

Hence, an initial increase in the investment by 1,000 crore lead to an increase in income and output by its 10,000 crore.