Accelerator Effects Increase in consumer demand Firms get close to fill capacity Firms invest to meet rising demand Accelerator (β)= ΔC ΔI - - Consumption and Investment Functions . . . Definition “The accelerator coefficient is the ratio between induced investment and an initial change in consumption.” Assuming the expenditure of ₹50crores on consumption goods, if industries lead to an investment of ₹ crores in investment goods industries, we can say that the accelerator is .
Absence of excess capacity in consumer goods industries. . Constant capital - output ratio . Increase in demand is assumed to be permanent .
Supply of funds and other inputs is quite elastic . Capital goods are perfectly divisible in any required size. . .
. Operation of the Acceleration Principle Let us consider a simple example. The operation of the accelerator may be illustrated as follows. Let us suppose that in order to produce consumer goods, machines are required.
Also suppose that working life of a machine is years. This means that every year machines have to be replaced in order to maintain the Accelerator = = constant flow of consumer goods. This might be called replacement demand. Suppose that demand for consumer goods rises by percent (ie from to ).
This results in increase in demand for more machines. So that total demand for machines is . ( for replacement and for meeting increased demand). It may be noted here a percent increase in demand for consumer goods causes a percent increase in demand for machines (from to ).
So we can conclude even a mild change in demand for consumer goods will lead to wide change in investment. Diagrammatic illustration: Operation of Accelerator. SS is the saving curve. II is the investment curve.
At point E , the economy is in equilibrium with OY income. Saving and investment are equal at OI . Now, investment is increased from OI to OI . This increases income from OY to OY , the equilibrium point being E .
If the increase in investment by I I is purely exogenous, then the increase in E E E I I I I S I I I I Y Y Y x y Income Saving and Investment Figure. . I s - - Consumption and Investment Functions