OCR A Level Economics: The multiplier, the economic cycle and output gaps (H460) – Revision Notes

These notes condense the topic The economic cycle from the OCR A Level Economics (H460) specification, Version 3.0 (June 2026), for first assessment in 2021. It sits in the Aggregate demand and aggregate supply area of study within the Macroeconomics content. Read the full study guide for explanations, then test yourself with the practice questions. Use the OCR Economics hub, the checklist and the free diagnostics to find weak spots. The macroeconomics overview gives context. Every figure here is made up for illustration.

Definitions to know

Term	Meaning
Economic cycle	Repeated fluctuation of real GDP around its long-run trend
Actual growth	Percentage change in real GDP
Trend rate of growth	Long-run average growth of potential output; the sustainable rate
National income multiplier	Eventual change in income divided by the injection that started it
Accelerator	Net investment is driven by the change in income, not its level
Output gap	Gap between actual and potential real GDP, usually as a percentage of potential
Negative gap	Actual below potential: spare capacity
Positive gap	Actual above potential: overstretched resources

Stages of the cycle

Stage	Growth	Typical signs
Boom	High, output above trend	Low unemployment, rising prices and wages
Downturn	Positive but falling	Slowing orders, investment cut
Recession, trough	Negative, then bottoming	Unemployment up, spare capacity
Recovery	Positive and rising	Confidence returns, slack remains

A common definition of a recession is two consecutive quarters of falling real GDP. Say it is a convention.

Actual versus trend growth

Method in steps:

1. Use real GDP, not nominal. Real GDP = nominal GDP ÷ deflator × 100. For example, 330 ÷ 110 × 100 = 300.
2. Growth (%) = (new - old) ÷ old × 100. For example, from 250 to 258.5: 8.5 ÷ 250 = 3.4%.
3. Estimate trend as an average over a full cycle, peak to peak or trough to trough.
4. Compare: actual above trend narrows or reverses a negative gap; actual below trend widens it.

Actual growth can be fast while trend is slow (a recovery from a deep recession). Trend growth needs more or better resources: it shifts LRAS and the PPF/C outward.

Factors determining trend growth

Factor	How it raises trend growth
Labour supply	More workers through population, migration, participation
Human capital	Education, training, health raise output per worker
Capital	Net investment widens and deepens the capital stock
Technology	More output from the same inputs
Natural resources	Discoveries and energy supply
Institutions and infrastructure	Secure property rights, transport, stable rules
Competition and enterprise	Pressure to cut costs and innovate

Evaluation prompts: which factor matters most for this economy (usually productivity in a mature economy); time lags; whether factors reinforce each other; whether a deep recession causes hysteresis and lowers trend growth; whether the gains are sustainable (resources, environment).

The multiplier

Formulae

Case	Formula
No taxes or imports	k = 1 / (1 - MPC) = 1 / mps
With withdrawals	k = 1 ÷ MPW, adding mps, mpt and mpm to get MPW
Change in income	Initial change in injection × k

Method in steps

1. Add the marginal propensities to save, to be taxed and to import to get MPW.
2. Work out 1 ÷ MPW.
3. Multiply that by the injection.
4. State the units and say whether it is a rise or a fall.

Worked reminder. mps = 0.07, mpt = 0.15 and mpm = 0.10 give MPW = 0.32 and k = 1 ÷ 0.32 = 3.125. An injection of 48 raises income by 48 × 3.125 = 150. If mpm rises to 0.25, MPW = 0.47, k = 2.13 and the same injection raises income by about 102. A higher MPC alone gives, for example, k = 1 ÷ (1 - 0.9) = 10.

Circular flow link. Injections (I, G, X) add to income. Withdrawals (S, T, M) take it out. Each round, a share (1 - MPW) of extra income is re-spent, so the rounds shrink and sum to injection × k. Equilibrium is where injections equal withdrawals.

AD link. An injection of 48 with k = 3.125 shifts AD right by 150 at each price level. With an upward-sloping SRAS, real GDP rises by less than 150 because the price level also rises.

Determinants of k

• Size of mps, mpt, mpm: higher leakages, lower k.
• Spare capacity: with slack, the effect falls on output; near full capacity, on prices.
• Confidence and credit: they change whether extra income is spent.
• Time lags and crowding out: they reduce the effect in practice.
• Who receives the money: groups with a high MPC raise k.

Role and purpose. It explains why spending changes have a magnified effect on income and helps estimate the impact of a change in investment, government spending or exports.

The multiplier-accelerator model

Net induced investment = v × change in income. With v = 1.5:

Year	1	2	3	4	5	6	7
Income	200	210	224	236	242	244	242
Change in income		10	14	12	6	2	-2
Net investment		15	21	18	9	3	-3

Investment is highest in year 3, when income growth is highest, and falls from year 4 although income keeps rising to year 6.

Chain of reasoning for the cycle:

1. Rising demand raises income.
2. Higher income growth raises investment (accelerator).
3. More investment raises income again (multiplier), so the boom feeds itself.
4. Growth slows, as capacity limits are reached or confidence falters.
5. Investment falls even though income still rises.
6. The multiplier works in reverse, so income falls and investment falls further.
7. Capital wears out and must be replaced, so investment and income recover.

Weaknesses: assumes spare capacity and constant v; ignores expectations, credit and policy; explains turning points but not their timing.

Output gaps

Output gap (%) = (actual - potential) ÷ potential × 100. Example: actual 541.2 and potential 520 give 21.2 ÷ 520 = +4.08%.

Diagram	Negative gap	Positive gap
Cycle diagram (time, real GDP)	Actual wave below trend line	Actual wave above trend line
AD/AS	AD meets SRAS left of vertical LRAS	AD meets SRAS right of LRAS
PPF/C	Point inside the curve	Output at or beyond normal capacity, stretched

Causes

Negative gap	Positive gap
Falling consumption, investment, government spending or exports	Cheap credit and rapid lending growth
Tight credit, financial crisis	Tax cuts or large spending rises
Currency rise hurting exports	Rising house or share prices raising spending
Sticky wages and prices slow adjustment	Export boom

Evaluation prompts: size and speed of the shock; flexibility of wages and prices; whether the cause is in the economy or abroad; and that potential output is an estimate.

Consequences

Negative gap	Positive gap
Unemployment and lost output	Inflation pressure
Falling profits, bankruptcies	Labour and skill shortages
Lower tax revenue, wider budget deficit	Imports rise, so the trade balance worsens
Weak investment, risk of hysteresis	Asset bubbles that may burst
Low inflation or deflation	Short-term gains in jobs and profits

Evaluation prompts: how big and how long; who is hurt or helped; whether the economy self-corrects; trade-offs with other objectives.

Must-know distinctions

• Actual versus trend growth: actual moves with the cycle and trend is the sustainable rate.
• Multiplier versus accelerator: the multiplier links a change in spending to income. The accelerator links a change in income to investment.
• Shift of AD versus change in real GDP: the AD shift is injection × k. The change in real GDP is smaller when prices rise.
• Negative versus positive gap: spare capacity versus overstretched capacity.
• Cyclical versus long-run change: a gap closing is movement back to trend. Trend growth shifts LRAS.

Quick self-test

1. Define an output gap.
2. Real GDP rises from 250 to 258.5. Calculate growth.
3. mps = 0.07, mpt = 0.15, mpm = 0.10. Calculate k.
4. Calculate the rise in income from an injection of 48 with that k.
5. MPC is 0.9 and there are no taxes or imports. Calculate k.
6. v = 1.5 and income rises by 14. Calculate net induced investment.
7. Actual output is 541.2 and potential is 520. Calculate the gap.
8. Nominal GDP is 330 and the deflator is 110. Calculate real GDP.
9. If mpm rises to 0.25 (others unchanged), calculate k to 2 decimal places.
10. Why can investment fall while income is still rising?
11. Where does AD meet SRAS in a negative gap?

Answers

1. The difference between actual and potential real GDP, as a percentage of potential.
2. (258.5 - 250) ÷ 250 × 100 = 3.4%.
3. MPW = 0.32, k = 3.125.
4. 48 × 3.125 = 150.
5. 1 ÷ 0.1 = 10.
6. 1.5 × 14 = 21.
7. (541.2 - 520) ÷ 520 × 100 = +4.08%, a positive gap.
8. 330 ÷ 110 × 100 = 300.
9. MPW = 0.47, k = 2.13.
10. Under the accelerator, investment depends on the change in income. When growth slows, the change falls, so investment falls.
11. To the left of the vertical LRAS at potential output.

Where marks are usually lost

• Using nominal figures to measure growth.
• Giving k as 1 ÷ (1 - MPC) when taxes and imports are in the question.
• Forgetting to multiply by the injection after finding k.
• Stating the AD shift as the final rise in real GDP when SRAS slopes upward.
• Saying investment depends on the level of income, not its rate of change.
• Describing a positive gap as costless, or listing consequences without judging which matters most.
• Evaluation that stops at “it depends” without saying on what, or which factor is more important and why.
• Unlabelled diagrams: name the axes, the curves and the equilibrium.

Official syllabus

OCR, A Level in Economics (H460), Version 3.0 (June 2026), first assessment 2021, Component 2 content: Aggregate demand and aggregate supply, topic The economic cycle. Published by OCR (Oxford Cambridge and RSA).