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LM3: tool for measuring local resilience

The Money Trail
Measuring your impact on the local economy using LM3

This tool was developed by New Economics Foundation and can be downloaded here: http://www.neweconomics.org/gen/z_sys_publicationdetail.aspx?pid=128

It makes sense to us to strengthen our rural economies – increasing their resilience to external knocks, diversifying their income base and increasing internal economic linkages – so that every pound that does enter a rural area is able to work as hard as possible for the benefit of that area before it leaves for the city.

And here is a simple explanation of why local economy has such importance and how this tool can be used to measure it:

What is the multiplier?

The multiplier was invented by John Maynard Keynes, one of the greatest British economists of the 20th century. The multiplier has been used to study all sorts of economics problems since then, such as the tourism industry where so much nonlocal money enters a country. The multiplier has mainly been used to look at the economy at the national or regional level (or ‘macroeconomic’ level as it is called). We have adapted this work to make it relevant at the local and organisational level ('which is called ‘microeconomic’). At the local level, one-off events and short-term fluctuations can mean the local multiplier is an approximation, but even a rough and ready calculation offers valuable insights into the functioning of the local economy.

To see how, let’s look at some examples.

A tale of two cities

Imagine two towns, Localton and Leakyville.

In Localton, people and organisations tend to spend most of their income on local items, such as groceries, repair work, child care, clothing, and so on (let’s say 80%). Here comes Jack. It’s his birthday and his Aunt Anne has sent him a nice gift: a £10 note to spend. He buys a bargain glass vase for £2 in the retail park in nearby Outletston, and returns home where he buys some flowers from the florist for £8. The florist can then get a long-awaited hairdo, so she runs over to the hair salon next door, where she spends £6.40 (that’s 80% of £8). And she spends the rest of this money on a mail order subscription to Flowers Today magazine. The hairstylist feels peckish, so she pops out for something after finishing the florist’s hair. She spends £5.12 (80% of £6.40) on a pizza, and saves the rest towards a forthcoming hairstyling conference in Curlyburg.

So what do we have in the way of blue fingers? Jack received £10 from Aunt Anne and spent £8 at the local florist; the florist spent £6.40 at the hairstylist, and the stylist spent £5.12 at the pizzeria. The rest of the money left the local economy because the vase was from Outletston, the florist’s magazine is produced in Basildon, and the hairstylist’s conference is in Curlyburg. So that’s a grand total of £29.52 for Jack’s town, all because of Aunt Anne. If we take Aunt Anne’s original £10 out, then that means an extra £19.52 circulated in Localton all due to her original £10 gift, and that is only the first three rounds of spending.

Meanwhile, in nearby Leakyville, people don’t spend much (generally just 20%) of their incomes locally because they have been hit by an outbreak of catalogue-fever. Most of their money goes on delightful consumer goods shipped from Mailorderover- Seas. Jack’s twin brother, Will, lives in Leakyville and also receives his £10 birthday present from Aunt Anne. He immediately buys £8 worth of gadgets from his favourite catalogue and spends the remaining £2 at the local florist. The florist uses 40p (20% of £2) to buy a cuppa in the local café while browsing a new brochure, and the café owner uses 20% of that income to buy a packet of chewing
gum.

So what do we have in the way of blue fingers in Leakyville? Will received £10 from Aunt Anne and spent £2 at the local florist; the florist spent 40p at the café, and the café owner spent 8p on gum. The rest of that money left the local economy. So that’s a grand total of £12.48 for Will’s town. And if we deduct Aunt Anne’s original £10 this time as well, that means her gift only generated £2.48 for Leakyville.

If we compare money flows in Localton and Leakyville thus far, the illustrations above show clearly what’s happening. A lot more of Aunt Anne’s £10 gift has stayed in Localton. However, money doesn’t stop flowing after these first three rounds. It keeps going. While there’s still £5.12 for the pizza restaurant owner to spend in Localton, there’s only 8p left in Leakyville. So the amount that Aunt Anne’s gift generates for Localton will grow even more.

In all, Aunt Anne’s gift generated five times as much as its original value in Localton! Meanwhile, her gift generated just one and one quarter times as much in Leakyville. Obviously, everyone spends their money in unique ways, and there’s nothing inherently better about cut flowers than gadgets. We presented a simplified example to highlight the impact that spending can have. It’s not just where you spend your money that matters. It’s also where the people you buy from spend theirs.

In the above examples, if everyone spends 80% of their income locally, then the town ends up with £50, which is five times as much as our starting point of £10 from Aunt Anne. In Leakyville, where everyone spends 20% of their income locally, we end up with £12.50, which is a significantly smaller addition. This income, the amount of money that Aunt Anne’s £10 gift generates for each town, is called the multiplier effect. And as you might be able to guess now, it’s called the multiplier because it shows the money that flows into a local economy can have an impact – a
multiplied impact – on the rest of the local economy.

For more information on this and other tools click here:
http://www.neweconomics.org/gen/z_sys_publicationdetail.aspx?pid=128

from Paul Martin