Discuss briefly the working process of investment multiplier (K), assuming that Change in Investment (ΔI) is Rs. 4,000 crore and Marginal Propensity to Consume (MPC) is 0.5.

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Accepted Answer

The investment multiplier (K) explains how an initial change in investment leads to a magnified change in income. Given: ΔI = ₹4,000 crore, MPC = 0.5.

Step 1: Calculate the multiplier value.
K = 1/(1-MPC) = 1/(1-0.5) = 1/0.5 = 2

Step 2: Calculate the total change in income.
ΔY = K × ΔI = 2 × ₹4,000 = ₹8,000 crore

Step 3: Working of the multiplier process:
- Round 1: Initial investment of ₹4,000 crore generates ₹4,000 crore income.
- Round 2: Recipients spend 50% (₹2,000 crore) on consumption, generating ₹2,000 crore income for others.
- Round 3: Next recipients spend ₹1,000 crore (50% of ₹2,000 crore).
- Round 4: Next recipients spend ₹500 crore.
- This continues with each round generating half the income of the previous round.

Total increase in income = ₹4,000 + ₹2,000 + ₹1,000 + ₹500 + ... = ₹8,000 crore.

The multiplier of 2 means income increases by 2 times the initial investment. With MPC = 0.5, the value of the multiplier is moderate, indicating that half of each additional income is saved, limiting the multiplier effect.