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Consider a hypothetical economy in which the marginal propensity to consume (MPC) is 0
Consider a hypothetical economy in which the marginal propensity to consume (MPC) is 0.6. That is, if disposable income increases by $1, consumption increases by 60 cents.
Suppose further that last year, disposable income in the economy was $500 billion, and consumption was $400 billion. Based on this data, derive a function that relates the economy's consumption to disposable income.
Suppose that this year, disposable income is projected to be $600 billion. Based on your analysis, how much would expected consumption and saving to be?
Expert Solution
Based on the data, the consumption function is consumption = 100 + 0.6* disposable income, measured in million of dollars.
If next year's disposable income is $600 million, there is a (600 - 500) = $100 million increase, given a MPC of 0.6, consumption will increase by 100 million *0.6 = $60 million. Expected consumption = 400 million + 60 million = 460 million.
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