UNIT 3

Consumption & Saving

Disposable Income (DI)

•         Income after taxes or net income

•         DI = Gross Income - Taxes

2 Choices

•         With disposable income, households can either

–        Consume (spend money on goods & services)

–        Save (not spend money on goods & services)

Consumption

•         Household spending

•         The 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 = % DI that is spent

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 = % DI that is not spent

APC & APS

•         APC + APS = 1

•         1 – APC = APS

•         1 – APS = APC

•         APC > 1 .: Dissaving

•         -APS .: Dissaving

MPC & MPS

•         Marginal Propensity to Consume

–        ΔC/ΔDI

–        % of every extra dollar earned that is spent

•         Marginal Propensity to Save

–        ΔS/ΔDI

–        % of every extra dollar earned that is saved

•         MPC + MPS = 1

•         1 – MPC = MPS

•         1 – MPS = MPC

Determinants of C & S

•         Wealth

–        Increased wealth .: Inc. C & Dec. S

–        Decreased wealth .: Dec. C & Inc. S

•         Expectations

–        Positive .: Inc C & Dec S

–        Negative .: Dec C & Inc S

•         Household Debt

–        High Debt .: Dec C & Inc S

–        Low Debt .: Inc C & Dec S

•         Taxes

–        Taxes Inc .: Dec C & Dec S

–        Taxes Dec .: Inc C & Inc S