Consumption & Saving

•  Disposable Income
• Income after Taxes or net income
• DI = Gross income - taxes
• 1. Consume (spend money on goods & services)
• 2. Save

Consumption

• Household spending
• Ability to consume is constrained by
• the amount of disposable income
• the propensity to save
• Do households consume if DI = 0
• Autonomous consumption
• Dissaving
• APC = C/DI = percent DI that is spent
• (Avg propensity to consume)

Saving

• Household not spending
• The ability to save is constrained by
• the amount of disposable income
• the propensity to consume
• Do households save if DI = 0
• NO
• APS = S/DI = percent DI that is not spent
• (Avg propensity to save)
• APC + APS = 1
• 1 - APC = APS
• 1 - APS = APC
• APC > 1 .:Dissaving
• -APS = .: Dissaving

MPC & MPS

• Marginal Propensity to consume
• change in C/change in DI
• Percent of every extra dollar earned that is spent
• Marginal Propensity to Save
• change in S/change in DI
• percent of every extra dollar earned that is saved

Determinants of Consumption and Savings 

• WEALTH
• EXPECTATION
• HOUSEHOLD DEBTS
• TAXES

Spending Multiplier Effect

• An initial change in spending (C, Ig, G, Xn) causes a larger change in aggregate spending or in aggregate demand
• Multiplier = change in AD / change in spending
• Why does this happen?
• Expenditures & income flow continuously which sets off a spending increase in the economy

Calculating the Spending Multiplier

• The Spending multiplier can be calculated from the MPC or MPS
• Multiplier = 1/1- MPC or 1/MPS
• Multipliers are (+) when there is an increase in spending and (-) when there is a decrease

Calculating the Tax multiplier

• money is now leaving the circular flow
• Tax Multiplier = -MPC/1-MPC or -MPC/MPS
• If there is a tax CUT, then the multiplier is + because there is now more money in the circular flow