Value of MPS (Marginal Propensity to Save) is increased from 0.4 to 0.5. What would be the impact on Multiplier?

The correct option is: The size of the multiplier would be decreased.

To understand why this is the case, let us look at the relationship between the Marginal Propensity to Save (MPS) and the investment multiplier (k).

The investment multiplier represents the multiple by which national income increases in response to an increase in investment. The mathematical formula relating the multiplier (k) to the Marginal Propensity to Save (MPS) is:

$$k=\frac{1}{\mathrm{MPS}}$$

This formula demonstrates an inverse relationship between the multiplier and the MPS. As the MPS increases, the multiplier decreases, and vice versa. Let us calculate the value of the multiplier in both scenarios to see this effect:

Case 1: When MPS is 0.4
Using the multiplier formula:
$$k_1=\frac{1}{0.4}=2.5$$

Case 2: When MPS increases to 0.5
Using the multiplier formula:
$$k_2=\frac{1}{0.5}=2$$

Comparing the two values, we can see that when the Marginal Propensity to Save (MPS) increases from 0.4 to 0.5, the value of the multiplier decreases from 2.5 to 2. Indeed, a higher propensity to save means that individuals withdraw a larger share of any new income from circulation (leakage), leading to a smaller cumulative expansion of income through the multiplier process.