the multiplier effect in tourism occurs when

Multiplier Effect in Tourism

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Archer, B.H. 1982. The value of multipliers and their policy implications. Tourism Management 3 (4): 236–241.

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Campos Soria, J.A., and L. Robles Teigeiro. 2019. The employment multiplier in the European hospitality industry: A gender approach. International Journal of Contemporary Hospitality Management 31 (1): 105–122.

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Turgarini, D., B. Muhammad, and E. Harmayani. 2018. The multiplier effect of buying local gastronomy: The case of Sundanesse Restaurant. E-Journal of Tourism 5 (1): 54–61.

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Ma, E. (2023). Multiplier Effect in Tourism. In: Jafari, J., Xiao, H. (eds) Encyclopedia of Tourism. Springer, Cham. https://doi.org/10.1007/978-3-319-01669-6_454-2

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Tourism Multiplier Effect

Tourism not only creates jobs in the tertiary sector, it also encourages growth in the primary and secondary sectors of industry. This is known as the multiplier effect which in its simplest form is how many times money spent by a tourist circulates through a country's economy.

Money spent in a hotel helps to create jobs directly in the hotel, but it also creates jobs indirectly elsewhere in the economy. The hotel, for example, has to buy food from local farmers, who may spend some of this money on fertiliser or clothes. The demand for local products increases as tourists often buy souvenirs, which increases secondary employment.

The multiplier effect continues until the money eventually 'leaks' from the economy through imports - the purchase of goods from other countries.

Tourism Multiplier

Concept of Tourism Multiplier : Tourism being a multi-faceted and interdisciplinary industry has a great potential in generating income and employment (direct and indirect). Tourism , being one of the largest industries for many countries, has a high multiplier effect. The inflow of money from Tourist Generating Region to Tourist Destination Region through various sectors of the economy is very high which contributes to the economic development.

Tourism is on higher trajectory of creation as it not only creates jobs in its own tertiary sector, it also reassures growth in the related primary and secondary sectors of industry. This phenomenon is known as the multiplier effect. In other words, how many times a money spent by a tourist circulates in a particular country’s economy.

You may read Tourism Product Concept

Money spent in a hotel or restaurant helps to create jobs directly in the hotel premises. It also generates jobs indirectly in related or allied industry elsewhere in the economy. For example, the hotel buys food from local farmers or market supplier, who may spend some amount of this money on clothes or other products. Tourists often buy souvenirs from destination this increases demand for local products, which upsurges secondary employment in locally.

Also read about Hospitality

The multiplier effects continue or have ripple effect until the money in due course ‘leaks’ from the economy through imports or other methods. 

Multiplier concept is based on Keynesian analysis. It tracks the money spent by the tourists as it filters through the economy. The revenue decreases in a geometric progression at each round as a result of leakages. 

Direct tourism expenditures occur when different suppliers of tourism services such as travel agencies, hotels, restaurants etc. provide services. Similarly, indirect expenditures occur due to purchase of handicrafts and availing services during the entire tourism experiences. Again, these expenditures on tourism lead to providing wages and companies can make profit out of tourism business and government may generate revenue through taxes. Causing a wide spread impact on the economy in terms of income, employment and further new investment, this figure also shows how leakages may occur due to high imports causing multiplier weak. 

You may read Tourism Product Concept  

Tourism Expenditure and Multiplier

Tourism Expenditure can be broadly divided into three types. Namely

• Direct Expenditure,
• Indirect Expenditure
• Induced Expenditure
• Direct Tourism Expenditure consists of expenditures by the tourists on goods and services on hotels, shops, and other tourism related services. It is otherwise known as tourist’s initial spending which creates direct revenue.
• Indirect Tourism Expenditure includes the transaction between businesses caused by direct tourism expenditures. It is otherwise known as the initial process of re-spending i.e., employees’ salary. For example, purchase made by hotels from local suppliers and goods bought by suppliers from the wholesalers. 
• Induced Tourism Expenditure consists of increase consumption resulting from increase in income provided by direct tourism expenditure.  It is otherwise known as the secondary process For example, the employees of the hotel purchase goods  and services otherwise known as re-spending.

Types of Multiplier

According to Lickorish and Jenkins, tourist multipliers can be classified into five main broad categories:

• Sales or transaction multiplier : The sales or transaction multiplier measures direct, indirect and induced turnover generated by extra unit of tourism expenditures or additional business turnover. 
• Output or production multiplier: The output or production multiplier measures the extra production and accounts an increase in stock levels at hotels, restaurants and shops as a result of increase in commercial or trading activities. The output multipliers are mainly concerned with actual levels or changes in production or output rather than the volume of sales or value.

Read more on Tourism Product Life Cycle

• Income multiplier: An income multiplier measures the income (receipt) generated by an additional unit of tourist expenditure. The salaries remunerated to overseas residents are not counted, only the proportion of these that has been spent in the area should be included while measuring Income multiplier.
• Employment multipliers: Employment multipliers measure the effects of extra economic activities on employment i.e., the increased number of primary and secondary jobs generated by an extra unit of tourism expenditure. This multiplier can be expressed in namely direct and indirect employment.
• The official or government revenue tourism multiplier: It indicates the net value ie, taxes less subsidies, of government income from tourism .

Use of Multiplier

Multiplier is a tool used to analyze the economic effect of increase in tourism expenditure and its influence on other sectors of the economy. The value of multiplier depends on the particular features of the tourism in the area studied and the characteristics of the local economy.

The greater the range of activities in the areas the greater would be the chance of higher number of exchange between them. Therefore, the greater is the size of multiplier then the export would be more than import.  However, a higher number of imports can reduce the value of multiplier.

Factors Affecting the Size of Tourism Multiplier

The size of the multiplier is affected by different factors. These include:

• The initial volume of tourism expenditure,
• Supply constraints in the area of the economy,
• The size of the area economy,
• Value added in the first round expenditure,
• Tourism industry linkages with the area of economy, and

The size of the multipliers depends on four basic factors:  

• Size and economic diversity. The overall size of region or country and economic diversity of its economy have a significant role in determining multipliers. Regions with large and diversified economies and producing goods and services of higher order will have high multipliers. As the households and business firms will consume most of the goods and services produced locally. 
• Geographic Extent and its Role:   It denotes the geographic extent of a region or country and its role within the broader region. Regions of a large geographic extent will have higher multipliers than small areas other things remaining constant, as transportation costs will tend to constrain imports. Regions or countries that serve as central location for the surrounding area or regions will have higher multipliers than those isolated areas. 
• Nature of the Economic Sectors: The nature and characteristics of the economic sectors under consideration also have substantial impacts. Multipliers vary across all sectors of the economy as the mix of labor and other inputs of every sector have their own propensity to buy goods and services available within the region. As Tourism and allied businesses are labor intensive, it tends to have greater induced rather than indirect effects on sector. When a single multiplier  describes a region, mostly it represents an aggregate or average value across many sectors. For more precise and accurate estimates sector-specific multipliers are to be used if possible. A sector-specific multiplier will precisely estimate the secondary effects within a given sector on sales of services and product.  
• Year: A multiplier represents the nature of the economy at a given point in time. As any changes over time in response in the economic structure or price changes may change multipliers for a given region. While using regional economic models or multipliers any changes in spending are generally price adjusted to the model year for region.  Sales or income multipliers are more directive to general price inflation than employment multipliers and ratios have more chances to change over time.

Limitations of Tourism Multiplier

Insufficient Data : It is observed that due to insufficient data regarding the tourism activities, it is not accurate enough to be used in tourism planning.

Variation in MPC: Variation in marginal propensity to consume leads to measurement in accurate effects on inflation.

Inelasticity of Supply:  It is assumed that supply is elastic in all sectors of production. However, developing countries are confronted with a number of problems including

• Lack of availability of resources
• Shortage of foreign currencies
• Inefficiency and insufficient productivity.

The Static Feature of Production Function: Multiplier concept can only explain about the past but not forecast the future.

The Time Factor: The study of multiplier does not consider the length of time necessary for the multiplier effect to influence the economy.

Also read Cost-Benefit Analysis

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What is the multiplier effect? Definition and examples

A Multiplier or the Multiplier Effect is the factor by which the return resulting from an expenditure is greater than the expenditure itself, or the way in which a change in spending leads to an even bigger change in income. The term is generally used in reference to how much a certain amount of expenditure increases total national income or GDP (gross domestic product).

Moreover, the multiplier effect is not uniform across different sectors; for instance, spending on infrastructure or technology may have a higher multiplier effect compared to other types of government expenditure

Example of the multiplier effect – education

Imagine that the government spends an extra $5 billion on education. The immediate effect is an increase in teachers’ income as well as greater sales of goods and services for companies that supply schools.

These people and businesses will in turn spend their extra income, making other entities richer, who spend some of that money, etc.

As far as the theory goes, this process should go on and on forever, in which case the multiplier has an infinite value. Most people and entities who become richer as a result of the initial expenditure put some of that money into savings rather than spending it.

How much of their extra income is spent depends on their marginal propensity to consume . The multiplier’s value can be calculated by using the following formula:

Muliplier = 1 ÷ (1 – marginal propensity to consume)

If the marginal propensity to consume are 0.25 or 0.50, the multipliers are 1.33 and 2 respectively.

When talking about the amount of money that a bank can generate for each dollar of reserves , we use the term ‘money multiplier’ . When discussing government spending, and how that initial extra expenditure can create additional wealth, we use the term ‘fiscal multiplier’ .

The multiplier and John Maynard Keynes

British economist John Maynard Keynes, whose ideas fundamentally changed the theory and practice of macroeconomics and governments’ economic policies, created the multiplier theory and its equations.

Keynes said that an increase in government spending created a proportional boost to overall income or GDP, because the additional spending would have a ripple effect through the economy.

Keynes first mentioned this effect at the height of the Great Depression in 1933 in his book – The Means to Prosperity . While addressed mainly to the British Government, his work also contained suggestions for several other countries that were also affected by the Great Depression.

US President Franklin D. Roosevelt and other world leaders received a copy. The British and US governments took the work seriously. This paved the way for the later general acceptance of Keynesian ideas.

According to Keynes, with a multiplier of two, the economy grows by $2 while the government deficit increases by $1.

Scores of papers written by economists have attempted to estimate fiscal multipliers since the global financial crisis of 2007/8 and the Great Recession that followed. The International Monetary Fund (IMF) calculated that the ‘harmful’ economic multiplier for fiscal contractions was often at least 1.5.

The Economist made the following comment regarding governments’ recent fiscal stimulus:

“Even as many policymakers remain committed to fiscal consolidation, plenty of economists now argue that insufficient fiscal stimulus has been among the biggest failures of the post-crisis era. Decades after its conception, Keynes’s multiplier is relevant, controversial and ascendent.”

Tourism and the multiplier effect

The multiplier effect from tourism is relatively high, due to several factors:

Diverse spending

Tourists spend money on food, drinks, tours, souvenirs, entertainment, taxis and other transportation, and general shopping. This diverse spending supports various businesses and sectors within the economy.

Tourism typically creates jobs both directly and indirectly. Waiters, chambermaids, and airport staff are examples of direct employment, while shop assistants, taxi drivers, and those working in food production and distribution are examples of indirect employment.

Stimulating local economies

In regions where tourists are major contributors to the overall economy, tourism can be particularly impactful. Florida, the South of France, and many parts of Spain became prosperous partly thanks to tourism.

Seasonal boost

In some parts of the world, the influx of tourists can provide a major economic boost during certain times of the year. In many cases, these boosts help sustain year-round operations, i.e., permanent jobs.

Promotion of Related Industries

Industries involved in the creation of infrastructure, such as construction companies benefit significantly from tourism.

Foreign Exchange Earnings

In Mexico, for example, tourism is an enormous earner of foreign exchange, especially US dollars. Foreign exchange earnings help maintain a positive balance of payments.

The extent of tourism’s multiplier effect may vary depending on what type of tourism a country or area receives (e.g., luxury vs. budget) and how much of the money that tourists spend remains locally versus going to foreign-owned entities.

Becoming over-reliant on tourism is risky, as the COVID-19 pandemic revealed. The economies of countries like Thailand, Spain, and the Maldives, which depend heavily on tourism, suffered significantly during the pandemic.

Video – What is the multiplier effect?

This interesting video presentation, from our YouTube partner channel – Marketing Business Network , explains what the ‘Multiplier Effect’ is using simple and easy-to-understand language and examples.

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The multiplier effect is an economic term, referring to the proportional amount of increase, or decrease, in final income that results from an injection, or withdrawal, of capital. In effect, Multipliers effects measure the impact that a change in economic activity—like investment or spending—will have on the total economic output of something. This amplified effect is known as the multiplier .

Key Takeaways

• The multiplier effect is the proportional amount of increase or decrease in final income that results from an injection or withdrawal of spending.
• The most basic multiplier used in gauging the multiplier effect is calculated as the change in income divided by the change in spending and is used by companies to assess investment efficiency.
• The money supply multiplier, or just the money multiplier, looks at a multiplier effect from the perspective of banking and money supply.
• The money multiplier is a key concept in modern fractional reserve banking.
• Other multipliers include the deposit multiplier, fiscal multiplier, equity multiplier, and earnings multiplier.

Investopedia / Mira Norian

Understanding the Multiplier Effect

Generally, economists are most interested in how infusions of capital positively affect income or growth. Many economists believe that capital investments of any kind—whether it be at the governmental or corporate level—will have a broad snowball effect on various aspects of economic activity.

As its name suggests, the multiplier effect provides a numerical value or estimate of a magnified expected increase in income per dollar of investment. In general, the multiplier  used in gauging the multiplier effect is calculated as follows:

Multiplier = Change in Income Change in Spending \begin{aligned}\text{Multiplier}=\frac{\text{Change in Income}}{\text{Change in Spending}}\end{aligned} Multiplier = Change in Spending Change in Income ​ ​

The multiplier effect can be seen in several different types of scenarios and used by a variety of different analysts when analyzing and estimating expectations for new capital investments.

Example of the Multiplier Effect

For example, assume a company makes a $100,000 investment of capital to expand its manufacturing facilities in order to produce more and sell more. After a year of production with the new facilities operating at maximum capacity, the company’s income increases by $200,000. This means that the multiplier effect was 2 ($200,000 / $100,000). Simply put, every $1 of investment produced an extra $2 of income.

Many economists believe that new investments can go far beyond just the effects of a single company’s income. Thus, depending on the type of investment, it may have widespread effects on the economy at large. A key tenet of  Keynesian  economic theory is that of the multiplier, the notion that economic activity can be easily influenced by investments, causing more income for companies, more income for workers, more supply, and ultimately greater aggregate demand .

Essentially, the Keynesian multiplier is a theory that states the economy will flourish the more the government spends, and the net effect is greater than the exact dollar amount spent. Different types of economic multipliers can be used to help measure the exact impact that changes in investment have on the economy.

For example, when looking at a national economy overall, the multiplier would be the change in real GDP divided by the change in investments, government spending, changes in income brought about by changes in disposable income through tax policy, or changes in investment spending resulting from monetary policy via changes in interest rates.

Some economists also like to factor in estimates for savings and consumption. This involves a slightly different type of multiplier. When looking at savings and consumption, economists might measure how much of the added income consumers are saving versus spending. If consumers save 20% of new income and spend 80% of new income, then their marginal propensity to consume (MPC) is 0.8. Using an MPC multiplier, the equation would be:

MPC Multiplier = 1 1 − MPC = 1 1 − 0.8 = 5 where: MPC = Marginal propensity to consume \begin{aligned}&\text{MPC Multiplier}=\frac{1}{1-\text{MPC}}=\frac{1}{1-0.8}=5\\&\textbf{where:}\\&\text{MPC}=\text{Marginal propensity to consume}\end{aligned} ​ MPC Multiplier = 1 − MPC 1 ​ = 1 − 0 . 8 1 ​ = 5 where: MPC = Marginal propensity to consume ​

Therefore, in this example, every new production dollar creates extra spending of $5.

Economists and bankers often look at a multiplier effect from the perspective of banking and a nation's money supply. This multiplier is called the money supply multiplier or just the money multiplier. The money multiplier involves the reserve requirement  set by the Federal Reserve, and it varies based on the total amount of liabilities held by a particular depository institution.

In general, there are multiple levels of money supply across the entire U.S. economy. The most familiar ones are:

• The first level, dubbed M1 , refers to all of the physical currency in circulation within an economy.
• The next level, called M2 , adds the balances of short-term deposit accounts for a summation.

When a customer makes a deposit into a short-term deposit account, the  banking institution  can lend one minus the reserve requirement to someone else. While the original depositor maintains ownership of their initial deposit, the funds created through lending are generated based on those funds. If a second borrower subsequently deposits funds received from the lending institution, this raises the value of the money supply even though no additional physical currency actually exists to support the new amount.

The money supply multiplier effect can be seen in a country's banking system. An increase in bank lending should translate to an expansion of a country's money supply. The size of the multiplier depends on the percentage of deposits that banks are required to hold as reserves. When the reserve requirement decreases, the money supply reserve multiplier increases, and vice versa.

Back in 2020, prior to the COVID-19 pandemic, the Fed mandated that institutions with more than $127.5 million have reserves of 10% of their total deposits. However, as the pandemic sparked an economic crisis, the Fed took a dramatic step: On Mar. 26, 2020, it reduced the reserve ratio to 0%—essentially, eliminating these requirements entirely to free up liquidity.

Money Supply Reserve Multiplier

Most economists view the money multiplier in terms of reserve dollars and that is what the money multiplier formula is based on. Theoretically, this leads to a money (supply) reserve multiplier formula of:

MSRM = 1 RRR where: MSRM = Money supply reserve multiplier RRR = Reserve requirement ratio \begin{aligned}&\text{MSRM}=\frac{1}{\text{RRR}}\\&\textbf{where:}\\&\text{MSRM}=\text{Money supply reserve multiplier}\\&\text{RRR}=\text{Reserve requirement ratio}\end{aligned} ​ MSRM = RRR 1 ​ where: MSRM = Money supply reserve multiplier RRR = Reserve requirement ratio ​

For example, in the case of banks with the highest required reserve requirement ratio—10% prior to COVID-19—their money supply reserve multiplier would be 10 (1 / 0.10). This means every one dollar of reserves should have $10 in money supply deposits.

If the reserve requirement is 10%, then the money supply reserve multiplier is 10 and the money supply should be 10 times reserves. When a reserve requirement is 10%, this also means that a bank can lend 90% of its deposits.

Money Supply Reserve Multiplier Example

Investopedia / Sabrina Jiang

Looking at the money multiplier in terms of reserves helps one to understand the amount of expected money supply. In this example, $651 equates to reserves of $65.13. If banks are efficiently using all of their deposits, lending out 90%, then reserves of $65 should result in a money supply of $651.

If banks are lending more than their reserve requirement allows, then their multiplier will be higher, creating more money supply. If banks are lending less, then their multiplier will be lower and the money supply will also be lower. Moreover, when 10 banks were involved in creating total deposits of $651.32, these banks generated a new money supply of $586.19, for a money supply increase of 90% of the deposits.

A multiplier may occur in a variety of ways, impacting different instruments or balances. The most common types of multipliers are below.

• The money multiplier demonstrates how central bank reserves are amplified by commercial banks
• The deposit multiplier demonstrates how fractional reserve banking can amplify deposits through new loans
• The fiscal multiplier measures the effect that increases in fiscal spending will have on a nation's economic output, or gross domestic product (GDP).
• The investment multiplier quantifies the additional positive impact on aggregate income and the general economy generated from investment spending.
• The earnings multiplier relates a company's current stock price to its per-share earnings.
• The equity multiplier calculates how much of a company’s assets are financed by stock rather than debt.

The multiplier effect as several implications on an economy. First, the multiplier effect often has a positive impact on the economy and economic growth. Instead of being limited to the actual quantity of funds in possession or in circulation, the multiplier effect can scale programs and allow for more efficient use of capital.

Multiplier effects may also impact economies in different ways. First, economies experience direct impacts when an economic factor is directly attributed to an entity. For example, when a government awards a tax incentive to an individual, that individual is said to have received the direct financial impact.

However, the multiplier effect incorporates two additional impacts: the indirect impact and the induced impact. The indirect impact of the government benefit above is that the individual takes their tax benefit and spends it. These funds do not sit idly by in one bank account; it may be spread across a dozen different businesses potentially relating to grocery stores, restaurants, car dealerships, or online purchases.

The last impact (induced impact) highlight the true benefit of multiple effects. Although a single individual received a tax benefit, many companies and their employees benefited. For example, imagine the individual dined at a restaurant and left a tip. That tip would now be the benefit of the waitstaff who may buy a crafted item at a local market and increase the income of a local artist. As currency flows through an economy, more than one individual or entity may residually receive benefit from a financial instrument. Therefore, the single tax benefit is said to have a multiplier effect on the economy.

What Is a Multiplier?

In economics, a multiplier broadly refers to an economic factor that, when changed, causes changes in many other related economic variables. The term is usually used in reference to the relationship between government spending and total national income. In terms of gross domestic product, the multiplier effect causes changes in total output to be greater than the change in spending that caused it.

How Does the Multiplier Effect Fit Into Keynesian Economics?

The multiplier effect is one of the chief components of Keynesian countercyclical fiscal policy. A key tenet of Keynesian economic theory is the notion that an injection of government spending eventually leads to added business activity and even more spending which boosts aggregate output and generates more income for companies. This would translate to more income for workers, more supply, and ultimately greater aggregate demand.

How Is the Multiplier Effect Related to MPC?

The magnitude of the multiplier is directly related to the marginal propensity to consume (MPC), which is defined as the proportion of an increase in income that gets spent on consumption. For example, if consumers save 20% of new income and spend the rest, then their MPC would be 0.8 (1 - 0.2). The multiplier would be 1 / (1 - 0.8) = 5. So, every new dollar creates extra spending of $5. Essentially, spending from one consumer becomes income for a business that then spends on equipment, worker wages, energy, materials, purchased services, taxes, and investor returns. When a worker from that business spends their income, it perpetuates the cycle.

Is a High Multiplier Good?

Each type of multiplier is individually defined and often has different metrics that define success. Very broadly speaking, most multipliers that are high indicate higher economic output or growth. For example, a higher money multiplier by banks often signals that currency is being cycled through an economy more times and more efficiently, often leading to greater economic growth.

What Causes the Multiplier Effect?

Some multiplier effects are simply the product of metric analysis as one number is compared to another. In other cases, the multiplier effect is a product of public policy or corporate governance. For example, the government may establish boundaries on how many times a deposit may be cycled through an economy. These regulations are often in place to restrict the multiplier effect; otherwise, financial institutions may become encumbered with too much risk.

Multiplier effects describe how small changes in financial resources (such as the money supply or bank deposits) can be amplified through modern economic processes, sometimes to great effect. John Maynard Keynes was among the first to describe how governments can use multipliers to stimulate economic growth through spending. In fractional reserve banking, the money multiplier (or deposit multiplier ) effect shows how banks can re-lend a portion of the deposits on-hand to increase the amount of money in the economy. In this way, commercial banks have a large degree of influence on economic outcomes.

Federal Reserve Board. " What Is the Money Supply? Is It Important? "

Federal Reserve Board. " Reserve Requirements ."

International Monetary Fund. " What Is Keynesian Economics? "

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The Multiplier Effect

The Keynesian policy prescription has one final twist. Assume that for a certain economy, the intersection of the aggregate expenditure function and the 45-degree line is at a GDP of 700, while the level of potential GDP for this economy is $800. By how much does government spending need to be increased so that the economy reaches the full employment GDP? The obvious answer might seem to be $800 – $700 = $100; so raise government spending by $100. But that answer is incorrect. A change of, for example, $100 in government expenditures will have an effect of more than $100 on the equilibrium level of real GDP. The reason is that a change in aggregate expenditures circles through the economy: households buy from firms, firms pay workers and suppliers, workers and suppliers buy goods from other firms, those firms pay their workers and suppliers, and so on. In this way, the original change in aggregate expenditures is actually spent more than once. This is called the  multiplier effect : An initial increase in spending, cycles repeatedly through the economy and has a larger impact than the initial dollar amount spent.

HOW DOES THE MULTIPLIER WORK?

To understand how the multiplier effect works, return to the example in which the current equilibrium in the Keynesian cross diagram is a real GDP of $700, or $100 short of the $800 needed to be at full employment, potential GDP. If the government spends $100 to close this gap, someone in the economy receives that spending and can treat it as income. Assume that those who receive this income pay 30% in taxes, save 10% of after-tax income, spend 10% of total income on imports, and then spend the rest on domestically produced goods and services.

As shown in the calculations in Figure B.10 and Table B.4, out of the original $100 in government spending, $53 is left to spend on domestically produced goods and services. That $53 which was spent, becomes income to someone, somewhere in the economy. Those who receive that income also pay 30% in taxes, save 10% of after-tax income, and spend 10% of total income on imports, as shown in Figure B.10, so that an additional $28.09 (that is, 0.53 × $53) is spent in the third round. The people who receive that income then pay taxes, save, and buy imports, and the amount spent in the fourth round is $14.89 (that is, 0.53 × $28.09).

Thus, over the first four rounds of aggregate expenditures, the impact of the original increase in government spending of $100 creates a rise in aggregate expenditures of $100 + $53 + $28.09 + $14.89 = $195.98. Figure B.10 shows these total aggregate expenditures after these first four rounds, and then the figure shows the total aggregate expenditures after 30 rounds. The additional boost to aggregate expenditures is shrinking in each round of consumption. After about 10 rounds, the additional increments are very small indeed—nearly invisible to the naked eye. After 30 rounds, the additional increments in each round are so small that they have no practical consequence. After 30 rounds, the cumulative value of the initial boost in aggregate expenditure is approximately $213. Thus, the government spending increase of $100 eventually, after many cycles, produced an increase of $213 in aggregate expenditure and real GDP. In this example, the multiplier is $213/$100 = 2.13.

CALCULATING THE MULTIPLIER

Fortunately for everyone who is not carrying around a computer with a spreadsheet program to project the impact of an original increase in expenditures over 20, 50, or 100 rounds of spending, there is a formula for calculating the multiplier.

The data from Figure B.10 and Table B.4 is: Marginal Propensity to Save (MPS) = 30% Tax rate = 10% Marginal Propensity to Import (MPI) = 10%

The MPC is equal to 1 – MPS, or 0.7. Therefore, the spending multiplier is:

A change in spending of $100 multiplied by the spending multiplier of 2.13 is equal to a change in GDP of $213. Not coincidentally, this result is exactly what was calculated in Figure after many rounds of expenditures cycling through the economy.

The size of the multiplier is determined by what proportion of the marginal dollar of income goes into taxes, saving, and imports. These three factors are known as “leakages,” because they determine how much demand “leaks out” in each round of the multiplier effect. If the leakages are relatively small, then each successive round of the multiplier effect will have larger amounts of demand, and the multiplier will be high. Conversely, if the leakages are relatively large, then any initial change in demand will diminish more quickly in the second, third, and later rounds, and the multiplier will be small. Changes in the size of the leakages—a change in the marginal propensity to save, the tax rate, or the marginal propensity to import—will change the size of the multiplier.

CALCULATING KEYNESIAN POLICY INTERVENTIONS

Returning to the original question: How much should government spending be increased to produce a total increase in real GDP of $100? If the goal is to increase aggregate demand by $100, and the multiplier is 2.13, then the increase in government spending to achieve that goal would be $100/2.13 = $47. Government spending of approximately $47, when combined with a multiplier of 2.13 (which is, remember, based on the specific assumptions about tax, saving, and import rates), produces an overall increase in real GDP of $100, restoring the economy to potential GDP of $800, as Figure B.11 shows.

The multiplier effect is also visible on the Keynesian cross diagram. Figure B.11 shows the example we have been discussing: a recessionary gap with an equilibrium of $700, potential GDP of $800, the slope of the aggregate expenditure function (AE 0 ) determined by the assumptions that taxes are 30% of income, savings are 0.1 of after-tax income, and imports are 0.1 of before-tax income. At AE 1 , the aggregate expenditure function is moved up to reach potential GDP.

Now, compare the vertical shift upward in the aggregate expenditure function, which is $47, with the horizontal shift outward in real GDP, which is $100 (as these numbers were calculated earlier). The rise in real GDP is more than double the rise in the aggregate expenditure function. (Similarly, if you look back at Figure B.9, you will see that the vertical movements in the aggregate expenditure functions are smaller than the change in equilibrium output that is produced on the horizontal axis. Again, this is the multiplier effect at work.) In this way, the power of the multiplier is apparent in the income–expenditure graph, as well as in the arithmetic calculation.

The multiplier does not just affect government spending, but applies to any change in the economy. Say that business confidence declines and investment falls off, or that the economy of a leading trading partner slows down so that export sales decline. These changes will reduce aggregate expenditures, and then will have an even larger effect on real GDP because of the multiplier effect. Read the following Clear It Up feature to learn how the multiplier effect can be applied to analyze the economic impact of professional sports.

HOW CAN THE MULTIPLIER BE USED TO ANALYZE THE ECONOMIC IMPACT OF PROFESSIONAL SPORTS?

Attracting professional sports teams and building sports stadiums to create jobs and stimulate business growth is an economic development strategy adopted by many communities throughout the United States. In his recent article, “Public Financing of Private Sports Stadiums,” James Joyner of Outside the Beltway looked at public financing for NFL teams. Joyner’s findings confirm the earlier work of John Siegfried of Vanderbilt University and Andrew Zimbalist of Smith College.

Siegfried and Zimbalist used the multiplier to analyze this issue. They considered the amount of taxes paid and dollars spent locally to see if there was a positive multiplier effect. Since most professional athletes and owners of sports teams are rich enough to owe a lot of taxes, let’s say that 40% of any marginal income they earn is paid in taxes. Because athletes are often high earners with short careers, let’s assume that they save one-third of their after-tax income.

However, many professional athletes do not live year-round in the city in which they play, so let’s say that one-half of the money that they do spend is spent outside the local area. One can think of spending outside a local economy, in this example, as the equivalent of imported goods for the national economy.

Now, consider the impact of money spent at local entertainment venues other than professional sports. While the owners of these other businesses may be comfortably middle-income, few of them are in the economic stratosphere of professional athletes. Because their incomes are lower, so are their taxes; say that they pay only 35% of their marginal income in taxes. They do not have the same ability, or need, to save as much as professional athletes, so let’s assume their MPC is just 0.8. Finally, because more of them live locally, they will spend a higher proportion of their income on local goods—say, 65%.

If these general assumptions hold true, then money spent on professional sports will have less local economic impact than money spent on other forms of entertainment. For professional athletes, out of a dollar earned, 40 cents goes to taxes, leaving 60 cents. Of that 60 cents, one-third is saved, leaving 40 cents, and half is spent outside the area, leaving 20 cents. Only 20 cents of each dollar is cycled into the local economy in the first round. For locally-owned entertainment, out of a dollar earned, 35 cents goes to taxes, leaving 65 cents. Of the rest, 20% is saved, leaving 52 cents, and of that amount, 65% is spent in the local area, so that 33.8 cents of each dollar of income is recycled into the local economy.

Siegfried and Zimbalist make the plausible argument that, within their household budgets, people have a fixed amount to spend on entertainment. If this assumption holds true, then money spent attending professional sports events is money that was not spent on other entertainment options in a given metropolitan area. Since the multiplier is lower for professional sports than for other local entertainment options, the arrival of professional sports to a city would reallocate entertainment spending in a way that causes the local economy to shrink, rather than to grow. Thus, their findings seem to confirm what Joyner reports and what newspapers across the country are reporting. A quick Internet search for “economic impact of sports” will yield numerous reports questioning this economic development strategy.

MULTIPLIER TRADEOFFS: STABILITY VERSUS THE POWER OF MACROECONOMIC POLICY

Is an economy healthier with a high multiplier or a low one? With a high multiplier, any change in aggregate demand will tend to be substantially magnified, and so the economy will be more unstable. With a low multiplier, by contrast, changes in aggregate demand will not be multiplied much, so the economy will tend to be more stable.

However, with a low multiplier, government policy changes in taxes or spending will tend to have less impact on the equilibrium level of real output. With a higher multiplier, government policies to raise or reduce aggregate expenditures will have a larger effect. Thus, a low multiplier means a more stable economy, but also weaker government macroeconomic policy, while a high multiplier means a more volatile economy, but also an economy in which government macroeconomic policy is more powerful.

Self Check: The Expenditure Output Model

Answer the question(s) below to see how well you understand the topics covered in the previous section. This short quiz does not count toward your grade in the class, and you can retake it an unlimited number of times.

You’ll have more success on the Self Check if you’ve completed the four Readings in this section.

Use this quiz to check your understanding and decide whether to (1) study the previous section further or (2) move on to the next section.

https://assessments.lumenlearning.com/assessments/540

• Principles of Macroeconomics Appendix B. Authored by : OpenStax College. Provided by : Rice University. Located at : http://cnx.org/contents/[email protected]:2/Macroeconomics . License : CC BY: Attribution . License Terms : Download for free at http://cnx.org/donate/download/[email protected]/pdf

• Solar Eclipse 2024

The Eclipse Could Bring $1.5 Billion Into States on the Path of Totality

T he total solar eclipse passing through parts of the U.S. on April 8 stands to have a major economic impact on cities across the country as stargazers flock to the path of totality. 

Factors including the date of the eclipse and the number of states in the path of totality means that millions of people will have the opportunity to view the event— and that the cities hosting them could see a combined $1.5 billion injected into their states’ economies.

“That number will include lodging costs for visitors coming from out of state or far away parts of their own state, as well as gas costs and food costs,” says Bulent Temel, assistant professor of practice in economics at the University of Texas at San Antonio, San Antonio, who performed the calculations to arrive at the $1.5 billion figure.

One to four million people are expected to travel for the eclipse, according to Great American Eclipse , an informational site that tracks solar eclipses around the world. The Federal Aviation Administration (FAA) estimates the days leading up to the eclipse will be some of the busiest travel days of the season, with 50,670 flights on Thursday, April 4 and 48,904 flights on Friday, April 5. That means the spending will be spread out: “[The eclipse] is on a Monday, so you might have folks coming Friday, Saturday, Sunday, spending a few days somewhere ahead of the event,” says John Downen, Director of Impact Analysis at Camoin Associates.

Read More : How Cities Around the U.S. Are Celebrating the Eclipse

Many regions along the path of totality have spent months—if not years—preparing for the upcoming surge of visitors and money. Rochester, NY, is expecting 300,000 to 500,000 visitors across the nine - county Greater Rochester region. Local businesses have a slate of specials and planned events the weekend leading up to the event—including eclipse themed beers from local breweries and a three-day pass from the Rochester Museum and Science Center for visitors to attend a range of talks and performances. 

The area’s tourism board says that some hotels have reported demand skyrocketing an average of 1200% for the four-day span leading up to April 8— unusual demand for a Monday in the region’s off-peak season. 

It’s an economic boost that no amount of planning— or marketing—can replicate. “It’s a really great tourism opportunity,” says Shannon Ealy, Director of Communications and Marketing for the Greater Rochester Chamber of Commerce. “You can spend millions of dollars on media buys to get our regional brand out there, but you can't exactly buy the sun and the moon crossing over us.” 

Read More: See the 2024 Solar Eclipse’s Path of Totality

But unfortunate weather could still put a damper on things, especially for businesses that might be stocking up for an influx of visitors, since many eclipse chasers decide where to view the eclipse based on weather that can’t be predicted until the event draws closer. “Even a simple factor like a cloudy day could just compromise all these expectations quite a bit,” Temel says. 

The real task for local business and tourism boards lies in converting one-time visitors into ones that return—without the promise of a solar eclipse. “Every single one of those visitors is a potential future visitor to the same area as well,” says Temel. “In the long run, the economic impact would be magnified quite significantly. 

Adds Downen: “It definitely presents an opportunity, especially in smaller communities, to showcase themselves and hopefully capture some future repeat visitors.”  

Read More : Where to Find Solar Eclipse Glasses—And Spot Fake Ones

Lebanon, Indiana, for example, is expecting its population to triple during the weekend before the eclipse. Joe Lepage, the city’s communication and community development director, says he hopes that the eclipse will change the way both locals and out-of-towners talk about Lebanon. 

“We have a large business park, great hospitals, establishments where people can work, but actually staying and living in Lebanon has been difficult to sell.” he says. "It'll give people that are going back home a chance to visit and realize, ‘Hey, that little town is nice.’ But then our locals can see all the things they have in their backyard and realize, ‘Hey, my community is pretty special too.’”

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Write to Simmone Shah at [email protected]

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