A Word on "Multipliers"

Every Principles of Macro student will undoubtedly come across the Keynesian multiplier. This doctrine claims that an initial dollar spent, for investment purposes or by the government, is followed by a domino-effect of spending of ever-smaller portions of that same dollar. For example, if I buy a box of Mike and Ikes for $1, Raul the candy man will turn around and spend $.90 of that on a McBurger, and Ronald McDonald will turn around and spend, say, $.81 on a donut, and then Krispy Kreme turns around and buys a milk dudd for $.73, etc., etc. You see, my dollar goes a long way in "stimulating the economy," right? Wrong.

For the agog and masochistic reader, I refer you to Reisman, Capitalism, 690-691. But it's pretty simple without the intellectual explanation, and I think I can handle it:

Consider that Ronald McDonald received $.90 for a McBurger, and instantly spent $.81 on a donut. Ronald is left with $.09 to do something with. It is likely, and let us assume, that he pays his workers and repairs some equipment and whatnot with that $.09. So Ronald has a donut and paid some wages. Great, eh?

The problem with the Keynesian Multiplier Doctrine, however, is that it is so bold as to say that if we spent a greater portion of every dollar we receive on consumable items, instead of saving and investing that money, this would somehow stimulate growth and prosperity in the economy. So let us assume that Ronald spent $.81 on a donut, and $.07 on a gumball. That leaves him with only $.02 to pay wages to his workers, and repair equipment and expand. And Krispy Kreme will do the same, and on, and on, and on. Tell me, how on earth are we better off in this situation? If we spend greater amounts of our dollar on consumer goods, as opposed to productively spending it on workers and equipment, and saving and investing, who is materially better off? All that has happened here is that profits have increased, the end. As for business expansion, which leads to higher real wages for everybody in the economy, this doesn't happen.

And it is this simple. Mainstream economists extol consumer spending because it makes GDP look good, but in reality, high amounts of consumer spending means low amounts of productive spending. If, over time, businessmen spend all they make on consumer goods and neglect to repair their equipment and just maintain their existences, they will ultimately eat themselves out of house and home. It doesn't do me any good if nobody will hire me, either!

Let's walk away with two lessons here:

(1) That which is consumed must first be produced. If we spent 99% of every dollar on consumer goods, there would be no money left for productive expenditures on capital- and time-intensive goods; we would reduce ourselves to barbarism. Yea, GDP would look spectacular for a very few years, but that's the extent of it.

(2) Saving and investing in productive resources is the only route to material wealth and higher real wages. Consumer spending merely implies the purchase of what has been produced; only productive spending, through investment and non-consumer good purchases, will lead to business expansion and a greater amount of "stuff" for everybody.