What is the multiplier effect in economics?

The multiplier effect in economics refers to the process whereby an initial increase in spending, such as government expenditure or investment, leads to greater overall increases in income and economic activity. When an initial round of spending occurs, it creates income for businesses and individuals who, in turn, spend part of that income on new goods and services. This subsequent spending continues through multiple rounds, creating a larger total increase in economic output than the original increase in spending.

For example, if the government builds a new highway and pays construction workers, those workers will spend some of their earnings on local businesses. The businesses then may see an increase in demand, leading them to hire more employees or invest further, causing an ongoing cycle of spending and income generation. The essence of the multiplier effect is that the total increase in income is greater than the initial increase in spending, highlighting the interconnectedness of economic activities.