What would the expenditure multiplier be in an economy...

What would the expenditure multiplier be in an economy without government spending or taxes where the MPC is 0.8 and the $M P m$ is $0 ?$ Where the $M P m$ is $0.1 ?$ Where the $M P m$ is $0.9 ?$ Explain why the multiplier might even be less than $1 .$

Key Concepts

Expenditure Multiplier

The expenditure multiplier is a concept in Keynesian economics that measures the change in aggregate income resulting from an initial change in autonomous expenditures, such as investment. It captures the idea that an initial spending injection can lead to a larger overall increase in output because of the subsequent rounds of re-spending. In models with leakages, including savings, taxes, or imports, the size of the multiplier is diminished.

Marginal Propensity to Consume (MPC)

The marginal propensity to consume is the fraction of an additional dollar of income that is spent on consumption. A higher MPC means that a larger proportion of extra income is spent rather than saved, which amplifies the round?about effects of spending on the overall economy. In calculating the multiplier, MPC is key because it determines how much additional spending is induced with each round of income re-distribution.

Marginal Propensity to Import (MPm)

The marginal propensity to import represents the proportion of any additional income that is spent on imported goods rather than on domestic products. This acts as a leakage in the multiplier process because spending on imports does not recirculate within the domestic economy. A higher MPm reduces the domestic multiplier since more income leaks to other countries, thereby dampening the overall impact of local expenditure on GDP.

Leakages in an Open Economy

Leakages refer to portions of income that are not immediately re-spent in the domestic economy, such as savings, taxes, or imports. In an open economy, higher levels of leakages—especially through imports—limit the effect of successive rounds of spending because some of the expenditure is diverted out of the domestic circular flow. This is why, in certain cases, the multiplier may be less than one; if most additional income is spent on goods and services produced abroad, it will not generate significant domestic income.

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