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Multiplier Effect

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PPGPortal > Home > Concept Dictionary > K, L, M > Multiplier Effect

Multiplier Effect 

The additional shifts in aggregate demand that result when fiscal policy increases income and thereby boosts consumer spending.

(Peter Dungan, Toronto PPG1002H, and Mankiw, N. Gregory, Ronald Kneebone, Kenneth J. McKenzie and Nicholas Rowe. 2008. Principles of Macroeconomics, 4th Canadian ed. Toronto: Thomson Nelson.)


When an external “shock” to expenditure occurs, for example a large tax cut, there is said to be a “multiplier” effect on aggregate demand. The multiplier occurs because workers employed to produce output to meet the increased demand caused by the initial shock in turn spend their incomes, employing still more workers and leading to still more spending.

In a small, open country like Canada, the multiplier tends to be relatively small. The multiplier is small in Canada because there are numerous leakages from re-spending that limit the multiplier effect. For example, if a large tax cut leads to increased savings by individuals and corporations, these earnings are not spent on more goods and services. Taxes also limit the multiplier effect, because large portions of increased earnings are taxed away before they can be re-spent. A final important source of “leakage” is spending on imported goods and services. Spending on imports goes into the earnings in another country and is therefore unlikely to be re-spent here.


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