I’ve been taught the “Multiplier effect” in my economics lessons before, but never really put it to question as I didn’t inititally see anything wrong with the idea, unlike with very many other concepts in mainstream economics that i’ve critisized. But then I recently read a post on here, briefly mentioning why the multiplier effect doesn’t work, or something along those lines.
So naturally I’m here to ask yet another question, namely: What is it about the concept of the multiplier effect that makes it not work, or wherein lies the fallacy? Since the multiplier effect is a common justification for government intervention, it would make sense to dissect the theory from an Austrian perspective.
The concise answer. It does not work, because to get that money to spend the government must first:
Tax
Borrow
Inflate
Thus any so called multiplier effect is more than offset by the destructive actions by which the government obtained the revenue in the first place. This Keynesian idea is just a cruel joke
Options 1, 2, and 3 should be considered AND/OR options.
Additionally, the multiplier effect is contingent on the Keynesian view of the asset portfolio. In practice, consumers may use the money they have in their hands on a wide variety of things that will not yield any multiplier effect. Friedman did considerable work on the multiplier, and found that in practice it is very low, especially once one factors in all the expenses incurred.
Essentially, the Keynesians believe that if the government injects money into the economy, it will have a stimulating effect. I will not cover the technicalities of the multiplier effect, but rather why it is doomed in the first place.
As I said above, the money that the government injects INTO the economy must first have been obtained FROM the economy in one of the three basic methods I listed above.
We will start with taxation. Lets go with personal taxation first. Depending on your income, 12% to 35% or more is taken from your income each year. What would have done with that extra money, had you been able to keep it. Spent it? Saved it? Invested it? That money taken was money that could not be applied to any of those actions, thus essentially taxation is the Keynesian multiplier in reverse. Money injected into the economy by government can never equal that removed by taxation, thus even on its face the Keynesian multiplier is worthless.
Borrowing. It is destructive, but it is the least destructive of the three methods, particularly in a fiat money economy, so I will not elaborate on it.
Inflation. The Federal Reserve prints money to cover the government’s deficit spending. Each unit of money printed devalues all units of money currently in the economy and distorts the price structure. This distorts the economy and leads to boom/bust cycles, which the Keynesian multiplier cannot possibly fix.
Another point I need to inject. The money spent by the government to create the supposed multiplier effect will not have the same effect if that money had been left with taxpayers in the first place. Government cannot hope to duplicate consumer preference, so government spending will NOT go to those areas most desired by consumers.
Just wanted a better understanding of what you were saying since I’ve gone over the Multiplier Effect as well. Again, thanks for the explanation. I find it funny when the Government Multiplier is justified when they try to paint it as an improvement over people just keeping their money and making wise investment and saving decisions.
So basically in order for the multiplier effect to happen in the first place, the government needs to create a reverse multiplier by taxing, essentially negating any positive effects. However, since governments can never properly allocate funds, we have misallocation of resources and a net negative effect.
yea but the idea is that the government spending 100% of the money they take in is higher than the persons marginal propensity to consume. So i dont know if that argument holds water.
The main problem I see with the multiplier effect is that it confuses some very basic concepts. Money is a medium of exchange. Even if we ignore the very good points about how government acquires money, by injecting it into the economy it is basically just adding more chips in a poker game. Production is the horse that drives the economic cart; adding money does not add goods and services to be exchanged. Now, the initial recipients of this money will have their purchasing power/exchange power multiplied, to be sure, but the rest of us will have ours reduced by the same proportion. So government can “multiply” parts of the economy, but only at the expense of others. In essence, it merely reshapes the economy by changing relative purchasing powers. This is not the effect that Keynes insisted was there.
