In a previous video I have explained that for fifty years all that has given money its value is the government's promise to pay. This promise is honoured by the government accepting the money it creates in settlement of the tax that people owe. But how can anyone be sure that the promise will work? The answer is provided by what is called the multiplier effect.
When the government spends the money does not disappear into a black hole. Instead it becomes someone else's income. They pay tax on that, and then usually spend what they've got left.
That process is repeated by the next person who gets some of proceeds of the money that the government spent, and then the next person does the same, and each time some tax is paid.
The result is that when the government creates money to spend it can pretty much guarantee that in a well controlled economy it will get its money back in tax. And that multiplier effect is what gives that money its value. This video explains that process.
There is more on the multiplier effect here.
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I think you may have underestimated the effect of the multiplier, and that in some cases the marginal multiplier from additional spending can be greater than one.
Read the bottom thread
I explore one aspect of the multiplier in the video, which is that the spend comes back in tax – the additional link adds to that
There is the fact that UK govt spending as a share of GDP has risen from 35% in the late 1990s to the low 40%s in the late 20teens. And in that time you would expect the multiplier effect to return more in tax than the increase in spending and this to be testable by looking at the size of the government deficit and the size of the debt which needs servicing.
The marginal multiplier from that additional spending can be greater than one and come back in tax. Worth exploring if it does though. Cheers.
I have provided the links on this already
I have a query about how this works. The extra money involved in the multiplier is presumably created by commercial banks at interest. When the loans are repaid the interest must be paid too. Where does the money for the interest repayment come from? If the government has in fact taxed all it originally spent then presumably the origin of this money cannot be the government so it must be from further commercial loans. Is this sustainable in the long term or does it imply that some people will inevitably go bankrupt?
Might you read the thread linked at the bottom of the page?
It is about circulation, not about absolute numbers. If I spend a shiny newly minted £1 in your shop, and you spend the £1 on buying stock, and the wholesaler spends £1 on sourcing product, and the producer spends £1 on raw materials, and the primary producer spends £1 on wages, and the employees spend £1 in the shop, and so the virtuous cycle can start again with the same £1 doing multiple service to create £1 of GDP (or whatever fiscal measure you prefer) each time. The amount of money is £1 at each time, but it has been used six times in this example. So if the government spends £1 in a similar way it might get create £6 of economic value. Less a bit each time due to tax and other costs.
Precisely
[…] is the third in a series of four videos exploring the value of money created to mark the 50th anniversary of the final end […]