When money is spent on goods and services, those who receive the money also spend some of it. The people receiving some of the t
wice-spent money will spend some of that, and so on. Economists call this chain reaction the multiplier effect. In a hypothetical isolated community, the local government begins the process by spending D dollars. Suppose that each recipient of spent money spends 100c% and saves 100s% of the money that he or she receives. The values c and s are called the marginal propensity to consume and the marginal propensity to save and, of course, course, c + s = 1. Let Sn be the total spending that has been generated after n transactions. Required:
Find an equation for Sn.
If is the total spending generated after n transactions, then is the spending generated during the n-th transaction. Since the government spends D dollars, then = D.
Then the second person will receive D dollars and spend dollars. Therefore, . The next person will receive dollars, which means they are spending dollars. Therefore,