The size of the multiplier effect for tax and transfer changes ________ the size of the multiplier effect for government spending.

Question

Quizplus · Accepted Answer

Tax and transfer changes typically have a smaller multiplier effect than government spending because they can have a dampening effect on aggregate demand. When taxes increase, people have less disposable income to spend, and when transfers decrease, households may cut back on consumption in response. As a result, the initial impact of the policy change on GDP is smaller, leading to a smaller multiplier effect. On the other hand, government spending tends to have a larger initial impact because it injects money directly into the economy, leading to a larger multiplier effect.

The Size of the Multiplier Effect for Tax and Transfer