When you go to the store with part of your paycheck and spend $10, the
store operator may use a portion of that money to pay his rent. The land
lord receiving the rent spends part of his income on gasoline. The service
station operator also has expenses to meet such as payroll, utilities and
the purchase of fuel stocks to replenish what he has sold. Economist refer
to this exchange of money and its circulation within the economy as the
“multiplier effect.” The multiplier operates on the principle that one
individual’s expenditure is another individual’s income. Eventually, money
leaves the economy, often in the form of import purchases, vacations,
gasoline and anything else purchased off island. Each time money changes
hands within the economy it is known as a “round.” At some point  a portion
of the money  is no longer circulating on the island and is “fugitive.”
     The first round of expenditures might represent the actual expenses
related to the cost of doing business. Round two estimates the subsequent
distribution of these payments by the recipients of round one payments. For
example, in the case of the various taxes paid to government, this factor
has been estimated to be 0.5 which means that for every tax dollar paid to
the government, fifty cents is returned directly into the economy in the
form of wages and salaries, local purchases of supplies, etc.  In-as-much
as the government has been maintaining a deficit account balance, it
follows that all revenue obtained by the government is expended for
operations and capital improvements. It has been assumed that the remaining
fifty cents paid to the government in taxes is available to meet government
interest payments, expenses associated with direct off island purchases,
etc. These funds are not in direct circulation within the economy and are
not considered as having a multiplier effect.
    That brings us to the third round as government employees spend their
income and as venders meet their expenses and cost of sales to the
government and so on. Each level, or round, of expenditures induces further
consumption although at a reduced level. Because the Commonwealth is a
consumer oriented society and almost all consumption items are imported,
the multiplier effect of monetary flows is not as pronounced as in the case
of other areas that have the ability to substitute imports with locally
produced goods and services. Finally, one arrives at the fourth and weakest
round of transfers within this economic model. For purposes of this
representation we have elected not to go beyond a fourth round of currency
flows to depict an ever diminishing impact which eventually results in all
such funds being fugitive as they leave circulation within the island
economy in the form of import purchases and other external payments.
    In examining the model it should also be appreciated that one can not
carry the specific expense identity of a first round line item description,
e. g., taxes, housing rental, etc., forward to the second and subsequent
round of cash flows. This is because the money available for the second
round is available for an entirely new series of expenses of which several
might be student tuition, recreation, etc., and so on, none of may be
related to the business operation generating the first and original round
of cash flows.
     Any measure of the multiplier effect is nothing more than an elaborate
combination of estimates based on a mathematical multiplier known as a
“factor.” To the extent that the “factor” is in error then the calculation
will be erroneous. However, hazardous as it is, such estimates are an
improvement over the intuitive method which some would employ without any
attempt to measure the elements involved. The technique can provide a
measure of the value of a particular industry to the economy as well as to
the government.
     The scenario has been developed based on various factored formulas
which are believed to represent conservative estimates of the various
rounds of currency transactions throughout the economy.
     It should be recognized that any measure of the multiplier effect
consists of an intricate combination of mathematical factors representing
induced expenditure activity within the economy with the factor at each
level, or round, descending in value.  To avoid being overly optimistic,
and in maintaining a conservative approach, we have developed low,
(conservative) factors to develop even those high estimates presented. The
development of conservative estimates of the multiplier factors largely
negates the possibility of exaggerating the impact of the industry’s
contribution to the economy.
Appendix
* The Size of the Multiplier
              The expenditure multiplier (M) equals 1 / (1-MPC) or   M
=       1

1 - MPC
 The higher the MPC means the larger the multiplier.
Example:
       MPC                               Multiplier
9 /10                                 10
                                  4 / 5                                   5

3 / 4                                   4
  2 / 3                                 3
1 / 2                                  2
1 / 3                               1.5
* Real World Significance of the Multiplier
              The multiplier explains why small changes in spending can
induce much larger changes in output. The multiplier implies additional
spending will bring idle resources into production, leading to additional
real output rather than increased prices.
* Limits on the Multiplier
              Leakages in the form of taxes and spending on imports will
reduce the size of the multiplier. It takes time for the multiplier to work.
              A lack of idle resources dampens the multiplier effect
through an increase in the price level.
Three Main Points
 * Changes in output, as well as changes in prices, play a role in the
   macroeconomic adjustment process, particularly in the short run.
 * The responsiveness of aggregate supply to changes in demand will
    be directly related to the availability of unemployed resources.
 * Fluctuations in aggregate demand are an important potential source
   of business instability.

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