CHAPTER

Income Determination
and Multiplier
(O)
LEARNING O BJECTIVES
O EQUILIBRIUM LEVEL
DETERMINATION OF
8.1
8.2 EQUILIBRIUM LEVEL
MULTIPLIER
CONCEPT OF INVESTMENT
8.3
84 SOLVED PRACTICALS

LEVEL
DETERMINATIONOF EQUILIBRIUM generally stated in terms of
8.1 condition is
the Keynesian Theory, equilibrium in equilibrium uhen aggregate
According to supply (AS). An economy is
aggrezaie demand (AD) and aggregate toaggregate supply during a period of time.
iemandforgoods and seroices isequal
when: ...(1)
50, equilibrium is achieved
AD = AS
Consumption (C) and Investment (I):
We kssw, AD is the sum total of ...(2)
AD=C+I
saving (S):
Also, AS is the sum total of consumption (C) and ..(3)
AS =C+S
Substituting (2) and (3) in (1), we get:
C+S=C +I
S=I
equilibrium
*Ters, acording to Keynes, there are Two Approaches for determining the
ie of incme and employment in the economy.
Imust be noted that Equilibrium level of income and employment can also be determined according to
Classial Theory. H
However, the scope of syllabus is limited to the Keynesian theory.
8.1
 inf Itis
arenot is output analysis. is
economy i.e. of income.
ex-ante of & level
Curve
nogovernment AS C+S 100200 300
and Approach) made in context investments Approach) income, 400 500 600
total AS
determination
or an the thecan
national me
planned the short-run.in the of saved,income
assumptions of AD C+I80 160240320
Approach 400 480560
(AD-AS in income
(AD-AS tocomponents:
level independent the
income, all is i.e.
studied equal or of
there
autonomous, the of consumed
are of of income
services level AS Investment
Investment context level is and (0) 40 40 40 40 40 40
Level Approach Approach with diagram: 40
of variousbe that curve
two equilibrium
AD
level Approach) to assumed directlybe
equilibrium the
andeither by
Equilibrium is is in
constant. C+Iof to in Equilibrium
equilibrium and the outputexpendituredetermined comprisesassumedcurve goods and
Saving -40-20
(S) 0 20 40 60 80
Supply Supply autonomous.
Saving state is by varies is of
schedule
(S-I equilibrium
it remain (C+I)of received
determination
first means, therepresented 8.1:Consumption
of Demand-Aggregate
Aggregate
1. theory,demand is output
determineApproach
Determination AS, investmentbe Demand-Aggregate It
(C):income.
us It by Table (C) 40 120200280 360 440520
AD, to to (I): is income following
let It total
that of (households
firms).
further,determination
is
assumed Keynesianexpenditure
Aggregate
represented
expenditure
expenditure
Saving-Investment
mind income.output demand, in the The
to that increase the Income
is the (Y) 100 200 300 400 500 600
for approaches in output: & assumed Equilibrium
equilibrium is supply
Sincecurve.
kept proceed of level Consumption is
theaggregate of
Approaches level AS). investment
Investmnent help Employment
to with curve line.
Price Aggregate
economy
are: be Assumptions (C+S)
must we The Itis by According
or Aggregate (Lakhs)
two Supplyrises AD 45° the 10 20 30 40 50 60
Before (i)
It (ii) (iii)(iv) when thewith
8.2 Two So,a
2. by by
 Income Determination and Multiplier 8.3
Chapter 8

shOws the
In Fig. 8.1, the AD or (C + I) curve
desired level of expenditure by consumers and (AD)
Demand
Aggregate
incomne. The
firms corresponding to each level of
economy is in equilibrium at point 'E' where Equilibrium
(C+ ) curve intersects the 45" line. (AD = AS)
AD (or C+I)
" E is the equilibrium point because at this point,
the level of desired spending on consumption M
and investmentexactly equals the level of total Equilibrium level
output. 45° of Income
" OY is the equilibrium level of output Y
corresponding to point E. Income / Output / Employment

" In Table 8.1, the equilibrium level of income is Fig. 8.1

400crores, when AD (or C+[) = AS = 400
crores.
that level of AD which
" It is asituation of Effective Demnand'. Effective demand refers to
becomes 'effective' because it is equal to AS.
(AD) is not
If there is any devíation from the equilibrium level of output, i.e. when planned spending
and the output
equal to planned output (AS), then a process of readjustment willstart in the economy
will tend to adjust up or down until AD and AS are equal again.

When AD is less than AS

above
When planned spending (AD) ismore than planned output (AS),then (C + I) curve lies
the 45° line. It means that consumers and firms together would be buying more goods than
irms are willing to produce. As a result, the *planned inventory would fall below the desired
level.
1obring the inventory back to the desired level, firms would resort to increase in employment
dnd output until the economy is back at output levelOY, where AD becomes equal to AS and
there is no further tendency to change.
"Planned Inventory is the unsold stock of goods which has been anticipated in case of an expected fall in
sales, while Unplanned Inventory refers to the unanticipated change in stock due to unexpected fall in sales.
When AD is less than AS
When AD <AS, then (C+ ) curve lies below the 45° line. It means that Consumers and firms
together would be buying less goodsthan firms are willing to produce. As aresult, the planned
inVentory would rise.
Tocl
until
earthe unwanted increasein inventory, firms planto decrease the employment and output
the
econmyto is back at output level
lurther tendency
OY, where AD becomes equalto AS and there is no
change.
 8.4
Introductory Macroecontie,
It must be noted that equilibrium level may or may not be at the level of
full
equilibrium is possible even at a level lower than the full employment level.
in Table 8.1, employment, ie.
For
employment level is 40 lakhs corresponding to equilibrium income of ?400
not the full employment level since employment increases even after the instae,
equilibrium levelCrores. it is
Saving-lnvestment Approach (S-I Approach)
According to this approach, the equilibrium level of income is determined at a
planned saving (S) is equal to planned investment (I).
Let us understand this with the help of following
level, wha
schedule and diagram:
Table 8.2: Equilibrium by Saving and Investment Approach
Income
()
Consumption Saving Investment Amount in?re
(C) (S) 0) Remarks
40 -40 40
100 120 S<l
-20 40
200 200 40 S<l
300 280 S<I
20 40
400 360
S<l
40 40
Equilibrium
500
600
440 60 40 (S=)
520 80 40
S>
In Fig 8.2, Investment curve (I) is
parallel to the X-axis because of the
autonomous charactz t
investments. The Saving curve (S) slopes upwards showing that as income
The economy is in equilibrium at point 'E rises, saving also riss
where saving and investment curves
each other.
intersect (AD)
Demand
Aggregate
At point 'E', ex-ante saving is equal to Equilibrium
ex-ante
investment. (AD = AS)
" OY is the AD(or
equilibrium level of output corres
ponding to point E.
" In Table 8.2, the
{ 400 crores, when
equilibrium level of income is
planned saving = planned
investment =? 40 crores.
If there is any deviation from the
equilibrium level of
iLe., if planned saving is not equal to the planned income, Investment
Saving
/
investment,
then a process of readjustment willstart which will bring
the economy back to the equilibrium level. Equilibrium
(S=I)
When Saving is more than Investment
If planned saving is more than planned investment,
i.e. after point 'E' in Fig. 8.2, it means that
/Employment
households are not consuming as much as the firms Income / Output
expected them to. As a result, the inventory rises
above the desired level. Y' Fig. 8.2
 Chapter8 Income Determination and Multiplier 8.5

To clear the unwanted increase in inventory, firms would plan to reduce the production till
become equal to each other.
saving and investment
Investment
When Saving is less than
less than planned investment, i.e. before point 'E' in Fig. 8.2, it means that
If planned savingis
bouseholds are consuming more and saving less than what the firms expected them to. As a
desired level.
result, planned inventory would fall below the production
To bring the inventory back to the desired level, firms would plan to increase the
other.
ll saving and investment become equal to each
8.2 EQUILIBRIUM LEVEL
always at full
According to the classical economists, equilibrium level of income is attained
per the
employment level, i.e. there is absence of involuntary unemployment. However, as
achieved at:
Keynesian theory,equilibrium level can be
() Full employment level; or
(i) Underemployment level, i.e. less than fullemployment level; or
level.
(üi) Over full employment level, i.e. more than full employment
level.
Let us discuss the three possibilities of equilibrium
Full Employment Equilibrium
+1)
It refers to a situation when the aggregate (C
demand is equal to the aggregate supply at full Demand Full Employment
Equilibrium
employment level. AD (or C+I)
" In Fig. 8.3, E is the full employment Aggregate
equilibrium because aggregate demand
"EQ' is equal to full employment level of
output OQ.
45°)
"At OQ level of output, all those who are
X
Q
willing to work at the prevailing wage rate, Income / Output/ Employment

are able to find employment, i.e. there is no Fig. 8.3

involuntary unemployment. Aggregate
Demand
(AD)
FullEmployment
Underemployment Equilibrium Equilibrium

It refers to a situation when the aggregate AD (Full Employment AD)

demand is equal to the aggregate supply when AD,(Actual)

the resources are not fully employed. It oCcurs
prior to the full employment level. Underemployment
" In Fig. 8.4, AD, = AS at point F which is Equilibrium
X
lower than full employment level. Q, Q
" AsO0, is less than OQ, point F signifies the Income/Output /Employment
under employment equilibrium. Fig. 8.4
 Over Full Introductory Macroeono
It
Empl
refers to o yment
a
ASbeyond thesituation
Equilibrium
full employment
:
when AD is cqual to
(AD)
Demand
Aggregate
Over FullEmployment
after the full levcl. It occurs Equilibrium
" In Fig. 8.5, emplovment
AD,
level.
= AS at point 'G which AD, (Actual,
higher thanthefull F

AD (Full Ernpicyrey
employ
Point'G signifies the over yment level.
full employment
equilibrium. 45°
Ful Ernployment
Equilibrium
Income /Output /
Fig. 8.5Employment
Over Full Employment
Equilibrium creates Inflationary Pressure
Over Full
Employment Equilibrium signifes that planned expenditure(
(AS)at a level higher than full employment level. (AD)is equalto
However, in reality, actual output
cannot increase beyond this planned outor
employment and there is no idle level as
So, any increase in AD capacity. economy is already at hud
(i.e. inflation) and there beyond the ful
will be no real employment output, will lead to
increase in output. increase in general price leve
Short-run Fixed Price Analysis of Product
In the Market
short-run, prices
as producers try to take some time to respond to thhe forces of
update their production plans in the excess supply or demz
excess supply, firms plan to mean time. For instance, in cy
inventory. Also, an individualproduce less in the next cycle in
order to avoid
position to influence the marketfirmpriceis very small in relation to entire marketaccumulaticr:
and is not.
As a result, an
individual firm has to
remains constant and it changes only acÒept the price that prevails in the
excess demand or supply. So, it is when the economy is unable to market.thePrice :
in the long-run. assumed that prices remain constant eliminate in short-run and të
ett

In order to derive
aggregate demand under fixed price of final goods (i.e. in the short-run
to be assumed that elasticity of
supply is infinite, ie. _uppliers are willing to supy
amount consumers will demand atthe
given a
'assumption hez
if quantity supplied exceeds or falls short constant price. It isa necessary
of
change because of excess supply or demand. So,quantity dèmanded
when aggregate supplyaty(AS)
thisisprice,
assumedtrentolea
equilibrium is solely determined by aggregate demand (AD), We cll it 'Effective Demand Pinay%
Effective Demand refers to the total demand of the community which is met by correspondngS
Determnination of Equilibrium Output under Fixed Price Model byag
Under 'Fixed Price Model', the equilibrium output of final goods is determined solelv
demand (AD).
Investment ().
In a two-sector model, AD is afunction of Consumption (C) and
Chapter8 Income Determination and Multiplier 8.7

means, AD=C+] ...i)

It
IWe.also know,
consumption function is given by:
C=+b(Y) ..(ü)
Where,= Autonomous Consumption; b = MPC; and Y= Income.
We also know,that'b''or MPC shows the rate at which consumption increases with increase
i.e. b shows the slope of consumption function.
inincome,
The
investments are àssumed to be autonomous investments, i.e. they are not influenced by
the level of income.
Autonomous Investment ...(ii)
It means, I=l=
Putting value of Cfrom (ii) and Ifrom (iii) in (i), we get:
AD =+ b(Y) + I
Or,
AD=¬+1+b(Y)
AD =A+b(Y) [Total Autonomous Expenditure (A)=C+I]
Or,
Now, equilibrium level of aggregate denmand (AD) or
national income (Y) depends on the values of autonomous Demand
Aggregate
expenditure (A) and MPC (or b). Let us determine the .- AD,
equilibrium with the help of Fig.8.6: AD

As seen in the diagram, when autonomous expenditure

line at
in the economy is A,, the AD line intersects the 45
point 'E. So, point "E is determined as the equilibrium point,
at which equilibrium output is OY. 45
Y,
However, if autonomous expenditure increases from A, Income and Output
to A, the AD line will shift to AD,. Due to increase in Fig. 8.6
autonomous expenditure, EG is the amount of excess
demand. Now, point Ewill no longer represent the equilibrium point. The new equilibrium will
line. That occurs at
be determined when new aggregate demand line, i.e. AD, intersects the 45°
demand
point E, It is the new equilibriumn point. The new equilibrium output and aggregate
willbe determined at OY, and AD,respectively.
Example for Better Understanding
Q1. Estimate the value of ex-anteAD, when autonomous investment and consumption expenditure
(A) is? 50 crores and MPS is 0,.2 and levelof income is300 crores. (CBSE, Sample Paper 2018)
Ans. MPC=1- MPS=1-0.2 =0.8
Inatwo-sector model, AD is a function of Consumption (C) and Investment (|).
It means, AD = C+|
Also, Consumption Function is given by:C = +b()
Where, C= Autonomous Consumption; b= MPC; and Y=Income.
Investments are assumed to be autonomous investments, i.e. I=l
(Cont..)
 (Cont.. It
AD means,
A + bY
AD =50 +
AD=c+ b(Y) +|
AD =c+0+ b(Y)
Introductory Macre econor ie:
AD = 2900.8 (300) (::
Q.2. Crores Total
On the Autonomous
Part()iculars
basis of
following information, identify
whether the economy is in
Expenditure (A)
(i) Autonomous Consumptto Save
Marginal Propensity
(i) National Income ion and Investment Expenditure (A) (equi
CBSE,lib2020riur (58/4/1)
Ans. The (MPS)
economy is in 500 Crores
AD = A + bY
AD = 500 + equilibrium when AD = As() 0.2
AD =500 +
0.8 (4,000) 4,000 Crores
AD = 3,200
3,700 crores
Since, AD 3,700
crores) < AS 4,000
(Given Y=*4,000
8.3 crores)
CONCEPT OF crores), the economy is not in
The concept of INVESTMENT
'Investment
believed that an initial Multiplier' MULTIPLIER
is an
equilibrium.
expresses the increment
relationship
in aggregate income.
in important
investment increases contribution of Prof. J. M.
In
between initial increment in final income by many times.Keymes, Kamk
an the
practice, it is
observed
change in income is not that investment and the resultingMultiple
incteas
when investment is
times the change in restricted to the extent of theincreased by a certain
investment. investment.
Multiplier explains how
in the investment.
In other
words, initial investment, but amount,
change in it
then he
changes severa
income
nmany times the income is a
multiple of the changeit
Multiplier (k) is the ratio of increase in increases as a result of an increa
national income (AY) due to an
kAY increase in investment (
Suppose an additional AI
income (AY)of ? 16,000investment (AI) of 4,000 crores in an
crores. The value of multiplier (k), ineconomy generates an
this case will be: additun
k= 16,000 4
means, income increased 4 times with a 4,000
It
single increase in investment.
Multiplier and MPC
There exists a direct relationship between MPC and the value of multiplier. HigherthesR
more will be the value of multiplier, and
vice-versa.
The concept of multiplier is based on the fact that one person's expenditure isanother pers
Peopese'
incomne. When investment is increased, it also increases the people.
income of the
 Income Determination and Multiplier 8.9
Chapter8

ofthËsincreased
income on consumption. However, the amount of increased income
apart
spenton consumption
depends on the value of MPC.
o99e of higher MPC, people will spend a large proportion of their increased income on
Consumption. In such case, value of multiplier will be more.
low MPC, people will spend lesser proportion of their increased income on
" In case of
consumption. In such case, value of multiplier will be comparatively less.
Thus, the value of multiplier depends upon the MPC (refer Table 8.3).

Algebraic Relationship between Multiplier and MPC

between Multiplier and MPC can be derivedin the following manner:
Thealgebraic relation consumption (C) and investment (1).
We know, at equilibrium, income (Y) is the sum total of
Y=C+I
A).
Similarly, any change in income (AY) will also be equal to (AC +
AY= AC+AI

Dividing both sides by AY, we get

AY AC AI
AY AY AY
AY AC AI
1 = MPC;
1= MPC tt AY

k MPC
Multiplier (k) in terms of MPS
1
We know, k=:
(1- MPC)
We alsoknow, 1 - MPC= MPS
So k=
MPS

if the MPC or the MPS is known.

It means, the value of multiplier can be known
FORMULA OF MULTIPLIER (k)

1
AY k=: k=
k= 1- MPC MPS

uuplier is directly related to MPCand inversely related to MPS

he value of multiplier depends upon the value of marginal propensity to consume. Multiplier
(k) and MPC are directly related, i.e., when MPCis more, k is more and vice-versa. On the
made
ary, higher the MPS, lower will be the value of multiplier and vice-versa. This can be
clear with the help of the following table:
 Table 8.3: Multiplier, MPC and MPS
Introductory Macroeonomie
MPC
MPS
(1- MPC) Multiplier (k
1
1-MPC
0.50
0.50 1
0.67
0.33
1-0.50
0.75
0.25
1-067
1

0.80
0.20
1-075
5 1
0.90 1-0.80
1
0.10
10- 1-0.90
It is clear from 1
Table 8.3, that multiplier is 1-1)
Maximum Value of directly related to MPC and
The maximum valueMultiplier inversely related to\%
of
that the multiplier is infinity
economny decides to consume the whole when the value of MPC is 1.
of the MPC =1 indicza
additional income is saved. It will lead toofaits additional income. Here, not even at
expenditure
Proof:
and value of
multiplier will be infinity. continuous increase in the consumpixt
We know; k= 1
1- MPC
When MPC= 1, then:
k 1 1
1-1 (as any number, when divided by 0, gires mt
Minimum Value of Multiplier
The minimum value of
multiplier is one when the value of MPC is zero.
that the economy decides to save the whole of its MPC =0 2
additional spert
income and aresult,is thetre
consumption expenditure. So,there will be nofurther increase in income. Asnothing
increase in income (AY) will be equal to the increase in investment (AI), i.e.,,AY= Al. Here
value of multiplier is equal to 1.
1
Proof: We know; k =
1- MPC
When MPC = 0, then:
1 1
k = = 1
1-0 1
Chapter&
Income Determination and Multiplier 8.11

WorkingofMultiplier WORKING OF MULTIPLIER

working of multiplier is based
on the fact that Additional Investment
The expenditure is another person's (A) of 100 Crores
One person's additionalinvestment is made, then
inome. Wen an
Many tines more than the increase in First Round
iOme increaseS 100 Crores
this with the help of
mstment. Let us understand
Increase in Income

MPC= 0.90
anexample.
additional investment of 100
Suppose, Second Round 790Crores
" aflyover. This
rores (Al) is made to construct income
Increase in Income (90% of 100crores)
an extra
Pxtrainvestment Willgenerate MPC= 0.90
But this is not the
of 100crores in the firstround.
Third Round 781 Crores
end of the story. (90% of 90 crores)
recipients
. JF MPC is assumed to be 0.90, then
Increase in Income

spend 90% of MPC = 0.90

of this additional income will
7100 crores, i.e. 90 crores as consumption Fourth Round 772.90 Crores
amount will be
expenditure and the remaining Increase in Income (90% of81 crores)
90 crores in
saved. It will increase the income by Process Continues
the second round.
additional income of 1,000 Crores
"In the next round,90% of the Total Increase
in Income (AY) (100+ 90+ 81 + 72.90 +..)
spent on con
790 crores, i.e. ? 81 crores will be
be saved.
sumption &the remaining amount will
process will go on and the consumption expenditure in every round will
"This multiplier received from the previous round. The
multiplier
be 0.90 times of the additional income
process is shown in Table 8.4.
Table 8.4: Working of Multiplier (MPC =0.90)
Increase in Increase In
Increase in Increase in
Round Consumption (4C) Saving
Investment (Al) Income (AY)
(R Crores) RCrores)
RCrores) RCrores) (AS = AY-AC)
(AYx MPC)
90 (100 x 0.9) 10
100 100
90 81 (90 x 0.9)
72.90 (81 x 0.9) 8.10
3r 81
65.61 (72.90 x 0.9) 7.29
4th 72.90
5th 65.61

Total 100 1,000 900 100

Thus, an initial
As a result, investment(k) of ? 100 erores leads to atotal increase of
Introductoryt MacroeConom
Multiplier 1,000
100
= 10 100 Crores in the ine
One more way to
the total increase in
Calculate Total Increase in Income
100 croresincome can also be calculated as:
1×100 crores
90 crores 0.9 x
+

100 crores
81 crores
(0.9) x100 crores
72.90 crores (0.9) x100 crores
+
765.61 crores (0.9) x?100 crores

71,000 crores 100 crores

Diagrammatic Presentation of
The multiplier can also be Multiplier +I)
using the AD and AS approach.shown graphically
In Fig. 8.7, income (CDemand Multiplier Process
is taken on the
X-axis and aggregate demand
on the Y-axis.
is determinedSuppose,
the initial equilibrium AD,(C
at point E where AD Aggregate ADC+
curve
intersects the AS Curve. The equilibrium level of
income is OY. Now,suppose that the
increases by AI, So that the new investmnent
demand curve (AD,) intersects the aggregate 45° AY

supply curve (AS) at point 'F". Thus,aggregate

the new Y Y,
equilibrium level of income is OY,. The income Income /Output / Employment
rises from OY to OY,, in Fig. 8.7
response to an initial
increase in investment (AI). It is clear fromn the figure that the
increase in
$ byk=
or AY) is greater than increase in investment (AI), The value of multiplierisgiven

Reverse Operation of the Multiplier

investmentderHN
Multiplier works in the forward direction as well as in the backward d direction. If the t ocontractin2n
the multiplier operates in the backward direction. Areductionininvestmentleadst and
consumotion
dareN
income and consumption. It will lead to a cumulative decline in the income the initial
till the total contraction in income is the product of the value of multiplierand
investment. Let us understand this with the help of an example:
Chapter& Income Determination and Multiplier 8.13

investment decreases by 20 crores. With MPC = 0.5 and k=1/(1- MPC) = 2, there will be net
reswtion in income to the extent of 40 crores. Higher the MPC, greater the value of multiplier and
Qreater the cumulative decline in income. The multiplier is, thus, symmetric and works in both directions
tonnard anddtbackward), ie.iitis adouble -edged weapon.

8.4SOLVED PRACTICALS

Important Formulae at a Glance

AY 1
1. Multiplier (k) = A
=

1- MPC MPS

2. AD = C+|
+S
3 Y(or AS) = C =|
AD = AS or S
4 Equilibrium is achieved when
5. C=T+ b(Y)
6 S=-+ Y(1 - b)
{C= Autonomous Consumption; b = MPC; and (1 -b)= MPS)
Practicals on Investment Multiplier
0.75; (ii) 0.90.
Example 1. Calculate multiplier if MPC is: (i)
Solution:
1 1 1
-= 4
n Multiplier (K) =1- MPC 1-0.75 0.25

1 1 -= 10
0) Multiplier (k) = 1- MPC 1-0.90 0.10

the MPS is: (a) 0.40; (b) Equal to MPC

Example 2. Calculate the value of multiplier if
Solution:
1 = 2.5
(a) Multiplier (k) = MPS 0.40 [:: MPS + MPC = 1]
(b) f MPS=MPC, then MPS = 0.5
1 1
= 2
Multiplier (k) = MPS 0.5
investment
economy, income generated is four times the increase in
Ckample 3. In an
expenditure. Calculate the values of MPCand MPS.
Solution: increase in investment (A)}
Multiplier =4 (As increase in Income (4Y) is 4 times the
1
(a) Multiplier (k) =
1- MPC
1
4 =.
1- MPC
1- MPC =!
4
8.14

MPC 0.75
MPS 1-MPC 1-07S
MPS 0.25
Ans. MPC = 0.75; MPS =0.25
Example 4. in an economy, the marginal propensityto Consurne is 02. 1fths invetrnt int
increase in income.
by ? 1,000 crores, calculate the total
Solution:
1 1
Multiplier (k) = 1 MPC 1-0.80 0.20

Change in Incorne (AY)

We also know, : =
Change in Investrment (Al)
crores
Given: Change in Investment (A1) =1,000
Change in Income (AY)
ie.,5 =
1,000
So,Change in Income (AY) =?5,000 crores
Ans. Total increase in income =5,000 crores
Example 5. In an economy,60% of increased income is spent onconsumption. JZ4 Tr
invested in aproject, find out the increase in income and saving.
Solution:
Given: MPC = 0.6 (as 60% of increased income is spent on consumption)
1
= 2.5
Multiplier (k) =
1- MPC 1-0.6
Change in Income (AY)
We also know k: =
Change in Investment (A)
Given: Change in Investment (A) ={4 crores
Change in Income (AY)
ie., 2.5 =
4
Change or Increase in Income (AY) =10crores
: MPS=1-F
MPS =1-0.60 =0,40
MPS =
Change in Saving (As)
Change in Income (AY)
Change in Saving (AS) =AY x MPS = 10x 04 =*4 crores
Ans. Increase in income =10 crores; Increase in saving ={4 crores whereasth
is 500 crores, a
Example 6. In an economy, the actual level of income incomeissaved
employment level ofincomeis 7800crores. If one-fourth of additional
ofincome.
increase in investment required to achieve full employment level
Solution:
Given: MPS =0.25 (as one-fourth or 25% of additional income is savedl
Multiplier (k) = MPS 0.25
= 4
 Income Determination and Multiplier 8.15
Chapter8

Change in Income (AY)

k =
We also Know: Change in Investment (A1)
=300 crores
Given: Change in Income (A) = 800- 500
300
Le, 4 =
Change in Investment (A)
=75 crores
Hence Change in Investment (Al)
=75 crores
Ans Increase in investment required
short by 500 crores. Calculate
Evample7. In an economy, the equilibrium level of income falls
level of income, if 80% of increased
he 2dditional investment needed to achieve the equilibrium
is spent on
consumption.
inome
Soivtion:
Given: MPC=0.80 (as 80% of additional income is spent on consumption)
1 1 1
= 5
Multiplier (k) = 1- MPC 1-0.80 0.20

Change in Income (AY)

We also know: k = Change in Investment (A)
=500 crores
Given: Increase in Income (AY) required
500
ie. 5 =
Change in Investment (AI)
Hence, Change in Investment (Al) =?100crores
crores
Ans. Additional Investment required =100
level of income is 12,000 crore. The ratio of
Example 8. In an economy, the equilibrium 3:1. Calculate the additional
propensity to save is
marginal propensity to consume and marginal
of income of 20,000 crore.
investment needed to reach anew equilibrium level (CBSE, All India 2010}

Solution:
(MPC) and marginal propensity to save (MPS) signifies:
Ratio of 3:1 between marginal propensity to consume
1 or 0.25.
3
MPC =or 0.75 and MPS =
4

1
= 4
Multiplier (k) = MPS 0.25

Change in Income (AY)

We also know: k
Change in Investment (Al)
crores
Gven: Change in Income (AY) = 20.000 - 12,0O00 =8,000
8,000
Le, 4 =
Change in investment (Al)
Hence, Change in Investment (Al) =2,000 crores
Ans. Additional linvestment needed is 2,000 crores
 Solution:
Income)
Saving(R) Example 8.16
Solution:
increased
expenditure.
Solution: Example Example
is 10.InAns.
Ans. Ans. MPS Income
1000 0.75 = 4 We
Mutiplier(k) =
5
MPC = So, 200 100
MPC1-= WeMultiplier(k) = Total So, also
MarginalHence, = Change = = 9.
know, crores. Change Change 0.60:;
MPC1- increase
11. know: Calculate
MPC 1
Change Change in Multiplier
500bv
Propensity Multiplier An in k an
5
in Change income in
500
Find Consumption
= in Income 1-0.75
= MPC1- economy, Saving
1 increaseincome in 1 100 40 (S) MPS
-0.20 Change
Change Consumption
Consumption Change (k)
out 2,000 in(AC) Change
(k) Income (AY) crores, =
to = (4Y) 1.67 and
= marginal =2,000 =*2,000
Consume 0.80 in in of in in marginal
1-
Investment (AC) Investment 1 Multiplie
MP Income ? (AY) Income calculate Saving
Change
(AS) in
1 200 =?1,500 (AC)
propensity crores; crores 60 100
(MPC) (AY) crore (AY) 0.25 propensity
consume to
1
(A1) (A)
Totalcrores
=
the iTom
= in 4
0.80 total Income
(AY)
200
toincrease
1,000 investment Change in the
consume. 100
increase in tolowing
= in
5 Consumption
leads is
0.75.If introduKtory
dataMaIcero
(AS+AY)
to income 0.60
MPS
a
Expenditure estmentepd inve
rise 100 00

in CBSE
D: and
nationa 167=1-1
= corS 1+MS Mughe
15UE