What is a multiplier and what are its types?

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

What is a multiplier? This word, like many others in the Russian language, has many interpretations. In most cases, it is understood as some object that contributes to a multiple increase in another object.

The concept of the multiplier

Let's consider what a multiplier is from the point of view of various dictionaries.

From an economic point of view, this term is a multiplier.

In the dictionary of the Great Russian language by V. Dahl, it is understood as the arithmetic mean of the height of the star.

D. N. Ushakov has three definitions of this concept:

• device for measuring very weak current with a magnetic needle;
• a camera with multiple lenses that takes multiple pictures of the same object at the same time;
• animation worker.

S. I. Ozhegov, N. Yu. Shvedova in their explanatory dictionary give twodefinitions of what a multiplier is:

• device used to amplify something;

• the second definition coincides in meaning with the third of those according to D. N. Ushakov.

T. F. Efremova gives four definitions of this concept, the last of which also applies to workers in the production of animated films, and the first three are some devices:

• used to increase the speed of some mechanism shaft;
• in order to increase the pressure of the liquid body;
• for the purpose of obtaining multiple identical shots when printing or photographing.

The 1998 Encyclopedic Dictionary gives the same three definitions plus an economic definition, and here a multiplier is understood to mean a device that produces color print samples at the same time.

In our article, we will consider the multiplier from an economic point of view.

From history

This concept was first formulated by British economist R. F. Kahn in the early 30s of the last century. He believed that as a result of government spending on public works, primary employment appears, which then gives rise to secondary, tertiary and other types of employment. This contributes to the multiplier effect of the latter, as well as the purchasing power caused by the initial costs.

Later J. Keynes toto the employment multiplier added the concept of the latter in relation to income or investment. It shows the ratio of the growth of the first to the last.

J. Keynes multiplier

It is to him that the merit belongs to the generalization of the considered concept in economics. The growth of investments provides a directly proportional increase in income, some of which will be spent on the purchase of certain goods necessary for the implementation of life. Manufacturers of the latter will receive income, part of which they will also spend.

As a result, on the scale of GDP, there will be a positive growing effect of investment, which is called a multiplier. It is determined by how much society is willing to leave for consumption, and how much to save.

Economy involved in international trade tends to save, import, tax. In this case, the value of the investment multiplier will be less.

Keynes said that this coefficient has a positive effect on all sectors of the economy. He proposed to regulate not only investments, but also ND. To do this, he considered it necessary to raise taxes, which would contribute to the withdrawal of savings and, as a result, the growth of public investment.

Later, the Keynesians from America supplemented the concept of the multiplier with the principle of the accelerator, since they began to consider it as a continuous process.

Calculation

The increase in income in a society is determined by the ratio of those parts that go to consumption,called the marginal propensity to consume (mpc) and saved as savings, named similarly to saving (mpw).

The multiplier effect on the increase in ND (∆N) is equal to the product of the Keynes coefficient (multiplier (K)) and the increase in investment (∆K). The value under consideration is calculated according to the multiplier formula shown in the figure.

Multipliers in macro- and microeconomics

When analyzing the input-output balance, a matrix coefficient is used, with the help of which the connection of the final industry products with the EAP is carried out with a known share of the latter used within the industry.

Forecast of the dynamics of total income, employment in the region due to the growth of any component of total expenditures is carried out using a regional multiplier.

The impact of ongoing changes in the basic industries of a subject on its economy as a whole is assessed by the economic base coefficient under consideration, reflecting the growth in the number of employees over a long time period due to it in these industries.

What effect the growth of budget costs has on the equilibrium level of income is shown by the budget spending multiplier.

The ratio of the income that the population actually has to the dynamics of government spending when the latter and tax revenues change by the same amount refers to the considered coefficient of the balanced budget.

Spending multiplier

The multipliers of state and autonomous spending act as such coefficients. The latter will be discussed below.

Government spending affects employment and national production. They have the same effect on aggregate demand as do investment and consumer spending. They have a multiplier effect, which is expressed in the generation of new levels of the latest and the multiplier effect of investments.

The value of the multiplier in this case is calculated as the ratio of the increase in GNP to it in relation to government spending.

It can also be estimated through the marginal propensity to consume. In this case, the multiplier is equal to the ratio of 1 to the difference between 1 and mcp.

Thus, with the observed dynamics of the magnitude of government spending, there is a change in income, which proportionally depends on the first.

The multiplier of government spending is equal to that in relation to investments.

Taxes also have a multiplier effect. However, it is not as strong as that of investment or government spending. This is due to the fact that taxes are part of government costs, and a part cannot be greater than the whole. The tax multiplier is calculated as the ratio of mcp to the difference between 1 and mcp. This is because when taxes are cut, some goes to consumption while others go to savings.

Autonomous spending multiplier

Its essence boils down to the fact that an increase in any component of a given multiplier leads to an increase in NDsociety, and this value exceeds the initial increase in costs. It can be compared to a stone thrown into water. It causes a chain reaction in the form of circles. Similarly, autonomous spending contributes to the growth of employment and income.

This multiplier shows how equilibrium income will increase if autonomous demand increases.

Mechanism of action and autonomous coefficient calculation

Additional costs for some people become an additional source of income for others. The last are the sellers of goods and services. The income received by them at the next round of turnover becomes their expense, which contributes to an increase in the aggregate demand for products.

The autonomous multiplier is calculated by the ratio of 1 to the expression (1 - mpc - marginal propensity to invest + the same with respect to imports). When taking into account taxes in the denominator, mpc must be multiplied by the difference of 1 and the level of taxes in relation to ND.

Autonomous spending includes investment, government spending, and net exports. The multiplier effect is clearly demonstrated using the "Casian cross" shown in figure 3 of the section.

The growth of any of the autonomous costs leads to a shift in the equilibrium point up and to the right, while income grows faster than autonomous costs.

Main multiples when comparing companies

With the help of the considered coefficients, it is possible to compare various legalfaces. This is done using the following multipliers:

• P/E - the ratio of the market value of a share to the net profit attributable to one of them (from 0 to 5 - the company is undervalued);
• P/S - the ratio in which the numerator is the same, and the denominator is earnings per share (the norm is 2, if the value is less than 1, the company is undervalued);
• P/BV - the ratio of the same value to the value of assets per share (a value greater than 1 indicates a bad position in the company, if it is less than 1, then it is doing well);
• EV is the company's fair value equal to the sum of debt obligations and market capitalization less available cash;
• EBITDA - profit of a legal entity before taxes, depreciation and interest;
• EV/EBITDA - market estimate of profit (better to be less);
• Debt/EBITDA - how many years it will take a legal entity to repay debts through profit (the less the better);
• EPS - net income per common share;
• ROE - return on equity (more is better).

In this case, the comparison is carried out by legal entities belonging to the same industry. The analysis should be carried out on all the above multipliers.

In closing

In this article, we have considered what a multiplier is. In many cases, it is something that contributes to the increase of an object. But it is not always the case. And even in economics, coefficients can be used to compare several legal entities, called multiples, which do notreflect a multiple increase, but only ascertain their economic situation.