Accelerator Effect (Consumption & Investment)

Question 1

Define accelerator effect.

Answer 1

Relationship between planned capital investment and rate of change of national income (GDP).

Question 2

What is the accelerator effect?

Answer 2

Change in demand of consumer goods or services will cause a significant percentage change in demand for capital goods (investments).

Question 3

How do firms react to rising demand of consumer good or/and service?

Answer 3

Initially, firms will utilize their their existing productive capacity intensively, or meet higher demand by running down their stocks of finished products.

If they suspect that the increased demand will be sustained then they may increase in capital goods: new technology, plants, factories and machinery.

Question 4

Accelerator effects examples in action currently.

Answer 4

Investments to create extra capacity in cloud computing storage services.

Question 5

The negative accelerator effect

Answer 5

When the rate of growth of demand in an industry slows then net investment spending by firms often falls.

Question 6

1 criticism of this simple accelerator model?

Answer 6

Capital stock of a business can rarely be adjusted immediately to its desired level because of ‘adjustment costs’ and ‘time lags’. The adjustment costs include the cost of lost business due to installation of new equipment or the financial cost of re-training workers. Firms will usually make progress towards achieving an optimum capital stock rather than moving smoothly from one optimal size of plant and machinery to another.

Question 7

1 criticism of this simple accelerator model?

Answer 7

It ignores the spare capacity that a business might have at their disposal, in addition their ability to outsource production to other firms to meet a short term rise in demand.

Question 8

Implications for rise in business investments

Answer 8

A higher level of investments (I) can raise both actual and potential GDP growth and help to control inflationary pressures

Question 9

What is a macroeconomic advantage of a higher level of investment?

Answer 9

Investment is an injection into the circular flow of income - it is a component of AD

Question 10

What is a evaluation of macroeconomic advantages of a higher level of investment?

Answer 10

Particular capital investment are imported, imports are leakage from circular flow of income.

Question 11

What is a macroeconomic advantage of a higher level of investment?

Answer 11

New capital investments can increase productivity and create additional capacity to supply.

Question 12

What is a evaluation of macroeconomic advantages of a higher level of investment?

Answer 12

Might be significant time lag between arrival of more capital for workers and productivity

Question 13

What is a macroeconomic advantage of a higher level of investment?

Answer 13

Creates further demand in investment good industries, in addition can result in substantial multiplier effects on the levels of .

Question 14

What is a evaluation of macroeconomic advantages of a higher level of investment?

Answer 14

Particular capital investments replace labor (workers) thus resulting is some short term unemployment.

Question 15

Define the multiplier effect.

Answer 15

A change in 1 of the components of aggregate demand (AD) can lead to a multiplied final change in equilibrium level of GDP.

Question 16

Cause of multiplier effect

Answer 16

Injections of new demand of goods and services into the circular flow of income stimulate further rounds of spending as, a person’s spending is another person’s income.

Furthermore, this results in a increased effect on the level of national output, and also total unemployment in the labor market.

Question 17

Formula for value of multiplier.

Answer 17

Multiplier = 1/ (sum of propensity to save + tax + import)