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Assuming that Increase in Investment is Rs1000 Crore and Marginal Propensity to Consume is 0.9, Explain the Working of the Multiplier. - CBSE (Arts) Class 12 - Economics

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Question

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

Solution

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.

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Solution Assuming that Increase in Investment is Rs1000 Crore and Marginal Propensity to Consume is 0.9, Explain the Working of the Multiplier. Concept: Consumption Function and Propensity to Save.
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