When, at a particular price level, aggregate demand for final goods equals aggregate supply of final goods, the final goods or product market reaches its equilibrium. Aggregate demand for final goods consists of ex ante consumption, ex ante investment, Government spending etc. The rate of increase in ex ante consumption due to a unit increment in income is called marginal propensity to consume. For simplicity we assume a constant final goods price and constant rate of interest over short run to determine the level of aggregate demand for final goods in the economy. We also assume that the aggregate supply is perfectly elastic at this price. Under such circumstances, aggregate output is determined solely by the level of aggregate demand. This is known as effective demand principle. An increase (decrease) in autonomous spending causes aggregate output of final goods to increase (decrease) by a larger amount through the multiplier process.

The value of investment multiplier in an economy is determined by :

Inverse of marginal propensity to save

The correct answer is option (2) : Inverse of marginal propensity to save

The investment multiplier is calculated as the inverse of the marginal propensity to save (MPS). The formula for the investment multiplier is :

Multiplier = $\frac{1}{(1-MPS)}$

1. The MPS represents the fraction of income that is  saved rather than spent. The investment multiplier tells us how much aggregate output (income) will increase for a given increase in investment.

2. The higher the MPS, the lower the value of the investment multiplier, and vice versa. This is because a higher MPS means less of each additional rupee of income is spent, thus reducing the multiplier effect of initial investments on total income.