Income and Expenditure
Last lecture we talked about business cycles, and we learned that the aggregate demand
curve was integral to business cycles.
And the aggregate demand curve depends on how
much consumers consume, and how much businesses invest.
But what determines how
much consumers consume, and how much businesses invest?
That is the topic of this
If you remember, the marginal propensity to consume (MPC) is the amount of each dollar
of additional disposable income that a consumer would spend.
So if the MPC = .5, and I
had $100 in disposable income, we would expect that I would spend .5 x $100 = $50 of
If I had $300 in disposable income, we would expect that I would spend .5 x $300 =
$150 of it.
However, even if I had no disposable income, we would expect that I would still spend
some money on consumption.
Maybe I would use my savings, or maybe I would borrow,
but there would be certain things that I would just have to consume like food, so I’d find
some money somehow from another source.
This amount of money that I would spend
even though I had no disposable income is called
Therefore, we could predict how much a person would spend on consumption, by taking
the amount of disposable income a person had, multiplying it by the MPC, and then
adding autonomous spending.
This is called the
mathematically, we can represent it like this:
c = a +(MPC
Where c equals the amount a person consumes, a is autonomous spending, and yd is
Therefore, if my autonomous spending was $15,000, my disposable
income was $60,000, and my MPC was .5, we would expect that my consumption would
$15,000 + (.5 x $60,000) = $45,000
or if I told you that a person’s consumption function looked like this:
c = $10,000 + (.7 x yd)
you would be able to tell me that their autonomous consumption was $10,000 and their
MPC was .7.