Consumption and Savings

I.            Disposable Income (DI)

II.            Income after taxes or net income
III.            DI = Gross income - Taxes
IV.            Consumption
            a.            Household spending
            b.            Constrained by:
                                i.            Amount of DI
                              ii.            The propensity to save
             c.            If DI = 0, households can still buy things. Autonomous consumption & Dissaving
           d.            APC = C/DI = % DI spent
V.            Savings
            a.            Household not spending
            b.            Constrained by:
                                i.            Amount of DI
                              ii.            Propensity to consume
             c.            If DI = 0, households are not saving
VI.            APC and APS
            a.            APC: Average propensity to consume
            b.            APS: Average propensity to save
             c.            APS + APC = 100% or 1
           d.            APC > 1 or -APS means dissaving
VII.            MPC and MPS
            a.            MPC: Marginal propensity to consume
                                i.            ΔC/ΔDI
                              ii.            % of every extra dollar earned that is spent
            b.            Marginal propensity to save
                                i.            ΔS/ΔDI
                               ii.            % of every extra dollar earned that is saved
             c.            MPS + MPC = 100% or 1
VIII.            Determinants of Consumption and Savings
            a.            Wealth
                                i.            Increased wealth means increased C and decreased S
                              ii.            Decreased wealth means decreased C and increased S
            b.            Expectations
             c.            Household Debt
           d.            Taxes
IX.            The spending multiplier
            a.            An initial change in spending (C, I, G, or X) causes a larger change in aggregated                 spending or aggregated demand (AD)
            b.            Multiplier = Δ AD/ Δ Spending or (GDP)

             c.            Expenditures and income flow continuously which sets off a spending increase in the economy

           d.            Multiplier = 1/(1-MPC) = 1/ MPS

            e.            A positive multiplier means an increase in spending while a negative one indicates a reduction in spending.

X.            The Tax multiplier

            a.            When the government taxes, the multiplier works in reverse

                                i.            Money leaves the circular flow

                              ii.            Tax multiplier

                                                1.            -MPC/ (1-MPC) = -MPC/ MPS

                             iii.            If there is a tax cut, then the multiplier is positive because now more money is in the circular flow.