Why is this? Well, because one persons spending is another persons income, and that income will increase their purchasing power and hence their spending.
Lets try an example. Say i had £100 in my pocket. I gave all that money to my friend for looking after my dog for the day. Then, that person puts £25 into savings and spends the remaining £75 on a new TV from a guy they met. This guy then saves £25 and uses the remaining £50 to pay a neighbor to wash his car. This cycle could go on and on, but lets leave it there and say the neighbor puts all £50 into savings. The initial £100 has now exited the economy. However, on its way through the economy it has had a larger effect on GDP. The £100 turned into (100+75+50) £225 worth of spending in the economy.. and thus shows that the multiplier is a true theory.
The multiplier has a few equations related to it:
- The Multiplier = 1 ÷ MPW
- Change in GDP = Initial injection x (1 ÷ MPW)