Fiscal Multiplier

When a government spends more, the money becomes income for businesses and workers, who then spend part of it, creating further income for others. This chain of spending can make the total effect on GDP larger than the original spending.

For example, if a government spends an extra 10 billion and GDP rises by 15 billion as a result, the fiscal multiplier is 1.5. A multiplier below 1 means GDP rises by less than the spending, perhaps because the spending displaces private activity.

Multipliers vary with circumstances. They tend to be larger during recessions, when there are unemployed workers and idle resources, and when central banks keep interest rates low. They tend to be smaller when the economy is near full capacity, when spending leads to higher interest rates or when much of the extra demand goes on imports.

Tax cuts and spending increases may have different multipliers, and the size of multipliers is the subject of considerable debate among economists, since estimates differ widely.