1. 1 Alphabet Soup and Economics J.A.SACCO

2. 2 Real Consumption and Saving Schedules: A Hypothetical Case (1)(2)(3)(4)(5)(6)(7) PlannedAverageAverage RealPlannedReal SavingPropensityPropensityMarginal Marginal DisposalReal Con-Per Yearto Consumeto SavePropensityPropensity Income persumption(S=Y d -C)(APC=C/Y d )(APS=S/Y d )to Consumeto Save CombinationYear (Y d )per year (C)(1) - (2)(2)/(1)(3)/(1) A $0 B2,000 C4,000 D6,000 E8,000 F 10,000 G12,000 H14,000 I16,000 J18,000 K20,000 $2,000 3,600 5,200 6,800 8,400 10,000 11,600 13,200 14,800 16,400 18,000 $-2,000 -1,600 -1,200 -800 -400 0 400 800 1,200 1,600 2,000 ---- 1.8 1.3 1.133 1.05 1.0.967.943.925.911.9 ---- -.8 -.3 0.133 -.05.0.033.057.075.089.1 ----.8 ----.2 Looked at the basics of the Consumption function, now lets look at how a change in disposable income affects consumption and saving habits.

3. 3 Determinants of Planned Consumption and Planned Saving Average Propensity to Consume (APC) Consumption divided by disposable income The proportion of total disposable income that is consumed Or C/Yd

4. 4 Determinants of Planned Consumption and Planned Saving Average Propensity to Save (APS) Saving divided by disposable income The proportion of total disposable income that is saved Or S/Yd

5. 5 Determinants of Planned Consumption and Planned Saving Since the proportion of income spent and saved must equal 100% of disposable income, then the

6. 6 For Example: Real Disposable Income (RDI)=$6000 Consumption (C)=$5800, Saving(S)=200 Determinants of Planned Consumption and Planned Saving APC=C/RDI=$5800/$6000=0.967 APS=S/RDI=$200/$6000=0.033 APC+APS=0.967(APC)+0.033(APS)=1.00 ALWAYS Equals 1.00!

7. 7 Determinants of Planned Consumption and Planned Saving Example Income = $18,000 C = $16,400 S = $1,600

8. 8 Determinants of Planned Consumption and Planned Saving Example Income increases $2,000 to $20,000 C = $18,000 S = $2,000

9. 9 Determinants of Planned Consumption and Planned Saving Question What is your APC and APS?

10. 10 Determinants of Planned Consumption and Planned Saving Marginal Propensity to Consume (MPC). The ratio of the change in consumption to the change in disposable income. Percentage of any additional disposable income that is consumed. Or ΔC/ΔRDI

11. 11 Determinants of Planned Consumption and Planned Saving Marginal Propensity to Save (MPS). The ratio of the change in saving to the change in disposable income. The percentage of any additional income that is saved. Or ΔS/ΔRDI

12. 12 Determinants of Planned Consumption and Planned Saving Since 100% of any change in disposable income must be consumed or saved, then the MPC +MPS=1. For Example- RDI increases by $1000, consumption increases by $800, and saving increases by $200. MPC= Change in C/Change in Income=$800/$1000=0.8 or 80% of NEW income consumed. MPS= Change in S/Change in Income=$200/$1000=0.2 or 20% of NEW income saved. Therefore-MPC+MPS=0.8+ 0.2= 1.00. ALWAYS EQUALS 1. Note- MPC is constant slope of consumption function. MPS is constant slope of saving function.

13. 13 Determinants of Planned Consumption and Planned Saving Income 1 = $18,000Income 1 =$20,000 C 1 = 16,400C 2 = 18,000 S 1 =1,600S 2 =2,000 Example 1) APC?2) APS? 3) APC? 4) APS? 5) MPC? 6) MPS?

14. 14 Determinants of Planned Consumption and Planned Saving Then if:

15. 15 Quick Quiz The proportion of any additional income that is consumed is the _______ propensity to ________. The proportion of total disposable income that is saved is the _______ propensity to _____. marginal consume average save