The ripple effect by Bilal Mussa BSc Econ.

A question that has been asked time and time again is regarding the government spending on projects which perceived by the average person to be pointless. To some extend we should give credit for the ability to notice such matters at an infant stage. Let’s take for example the BA Concord project with Air France. That was a disaster on the doorstep. Next, then Channel Tunnel once again with France which was another waste of the public purse. Recently, the Wembley Stadium project which cost twice the projected amount. The government has a bad habit of backing projects which will not generate the use as well as it is thought on the paper.

Why do they do this?

The answer to this is simple. It is for the ripple effect to take place. If they spend money on a certain project it will mean more people are employed and when they receive their wages they shall go forth and spend in shops. The shop keepers will employ people to serve customers and also purchase stock. The warehouse will employ people and buy the goods in bulk from manufacturers. The manufacturers will employ people to make such products etc.

From this we realise that there is employment being generated at each given stage. But that’s not just what they want to happen. The government firmly believes that If it spends money then it can raise the demand for goods and services in the economy.

Example: We have an initial injection of £100 and individuals spend 90% of all monies saving only 10%.

Initially it will be £100 then it goes into the circle and the individual has £90 to spend. It goes back in and they have £81 to spend etc. This will raise the demand for goods and services at each given stage. A simple mathematical formula which can be used to work out the maximum increase in demand is shown by 1/(1-c) where C is the marginal propensity to consume. In our example the maximum demand that could be generated will be £1000 which is a tenfold increase.

How about the Olympics? Will it have the same impact?

That cannot be said just yet but we must assess the fact that it has employed many construction workers in the area. In addition, the area of East London is being regenerated as it deserves to be modernised from its current state. The total impact of the government spending can’t be calculated until the Olympics have taken place. It should also make some sense that with the recent influx of foreign workers that have invaded the shores of Britain we shall see an increase in Tourism. At each given stage of such a vastly project we are seeing employment and demand for goods and services.

Does this effect take place all the time when the government spends?

That is a grey area. For instance, if the government spent money on Healthcare then the impact won’t be as large as this. However, if they spent on handing out welfare benefits then they are hoping that the individuals for forth and spend the money to raise the economic activity. It is eminent that the government does everything in its power to help the economy grow. If it does not then the issue becomes far severe for political reasons and maybe more riots?

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