The Investment Multiplier: A Comparison of Three Alternative Approaches
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This note examines three approaches to explain the operation of the investment multiplier (Keynes, J. M., The General Theory of Employment Interest and Money, Harcourt, Brace and Company: New York, 1936). An earlier note of mine (Hochstein, International Advances in Economic Research 2016) focused on how the multiplier can be illustrated in a production possibility curve framework. This piece adds to that discussion by reviewing the production possibility curve concept and then comparing three different approaches to explain the multiplier (mathematical, circular flow, and production possibility curve) often seen in standard introductory economics textbooks.
The idea of the investment multiplier goes like this: If one begins from equilibrium income and then somehow investment increases, the economic system will move until a new equilibrium state is achieved. It turns out that the change in equilibrium income is larger than the change in investment that initiated the activity. A change...