The multiplier-accelerator model

Initial points
1. The model is a synthesis of the Kahn-Keynes multiplier and the “accelerator” theory of investment1. 2. The accelerator model is based on the truism that, if technology (and thus the capital/output ratio) is held constant, an increase in output can only be achieved though an increase in the capital stock.
P. Samuelson. “Interaction Between the Multiplier Analysis and the Principle of Acceleration,” Review of Economic Statistics (May 1939).

How much? Net investment = accelerator  change in output (10. If the level of output changes. they will need more capital.The accelerator •Firms need a given quantity of capital to produce the current level of output.1) •But firms can only increase their capital stock by (positive) net investment. How much more? Change in capital = accelerator  change in output (10.2) •It is also true that: Accelerator = Change in Capital/Change in Output .

.Capital/Output ratio •If we do not allow for productivity boosting technical change. this is what we are assuming—no technical change. •If fact. then the capital output ratio is held constant.

. That is. aSherman & Kolk claim this is a reasonable figure since estimates show that GDP is typically equal to 1/3 the value of the capital stock. it takes 3 dollars worth of capital to manufacture $1 worth of shoes. there would be a need for $30 in additional capital—or equivalently. $10. $30 in net investment.Example of the accelerator principle • We assume that  = 3a . •Hence if the demand for shoes increased by say.

Time period 1 1 to 2 2 2 to 3 Demand Change in Demand for Shoes for Shoes $100 $10 $110 $20 Shoe Machinery $300 Change in Shoe Machinery $30 $330 $60 3 3 to 4 $130 $5 $390 $15 4 4 to 5 5 5 to 6 6 $135 $0 $135 -5 $130 $405 $0 $405 -$15 $390 .

we have: Yt = Ct + It (1) . Assuming a closed economy without government.Formalizing the model If the economy is in equilibrium. Then output supplied (Y) is equal to aggregate demand (AD).

. Also note that for our simplified economy. income.Formalizing the model •The consumption function is given by1: Ct  C  cYt  1 (2) •We assume that investment in the current period (It) is equal to some fraction () of change in output in the previous period (or lagged output): It   (Yt  1  Yt  2) 1 (3) We assume that C depends on lagged. Y = YD. rather than current.

we ignore the constant C To get a standardized form. Thus we can write: Yt  At  1  Bt  2  0 (5) Note for the mathematically inclined: equation (5) is a 2nd order (homogenous) difference equation. let A = c + .Insert (2) and (3) into (1) to obtain: Yt  C  (c  v)Yt  1 Yt  2 (4) To get a homogenous equation. Let B = . . Also.

There will be cyclical fluctuations in the time path of national income (Yt) if A2 < 4B. then cycles are explosive—that is. then cycles are constant in amplitude. If B > 1 (and presuming that A2 < 4B). There will be no cyclical fluctuations if A2 > 4B. If B < 1 (and presuming that A2 < 4B). amplitude is a increasing function of time.It can be shown that: 1. . 5. 4. then cycles are damped—that is. If B = 1 (and presuming that A2 < 4B). 2. 3. amplitude is a decreasing function of time.

and (3)  = 1 .9Yt .000 1000 $4 996 0 988 -4 977 -8 965 -11 952 -12 940 -13 930 -12 923 -10 920 -7 925 -3 933 5 944 8 956 11 969 12 982 13 991 13 996 9 1000 8 $996 996 992 985 975 964 953 942 933 927 928 928 936 945 957 969 978 987 992 Assumptions: (1) Y is $996 in period 1 and $1000 in period 2.1. (2) C = 96 + .Example of the Multiplier-Accelerator Period 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 C Y Net I $996 $1.

and (3)  = B = 1 Data in Billions 1020 1000 980 960 940 920 900 1 3 5 7 9 11 13 15 17 19 21 Time Period . (2) C = 996 + .Multiplier-Accelerator Model Assumptions: (1) Y is $996 in period 1 and $1000 in period 2.9Yt -.1.

Damped oscillations B < 1 and A2 > 4B Time period .

Explosive oscillations B > 1 and A2 > 4B Time period .

the limit to capital reduction in a given period is the wear and tear due to depreciation. finance. there is a limit to disinvestment (negative net investment). procurement.” •The time lag between a change in output and a change in (net) investment can be significant—the investment process (planning. training) is often lengthy. At the aggregate level. Hicks pointed out that. . installation. for the economy as a whole. manufacturing. There is no role for “expected profits” or “animal spirits. •J.Qualifications/limitations •This model is based on a crude theory of investment.