Macroeconomics the Marginal Propensity to Consume Refers Essay

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Macroeconomics

The marginal propensity to consume refers to "the proportion of an aggregate raise in pay that is spent on the consumption of goods and services" (Investopedia, 2011). That is, if there is more money in the economy, it must either be spent or saved. The MPC is the amount that is going to be saved. The marginal propensity to save is the reverse of this -- it refers to how much of the new aggregate raise in pay will be saved instead of spent. The two have a complementary relationship, with all of an aggregate increase in pay going towards one or the other.

As per the accounting identity of GDP = C + I + G + X -- M, an increase in aggregate pay is going to affect the GDP. The degree to which an increase in aggregate pay affects the GDP is going to relate to the marginal propensity to consume.

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If consumers spend 100% of their aggregate increase in pay, then the GDP will increase by the same amount as that aggregate increase in pay, because the C. In the accounting identity will be increased by the amount of the aggregate pay increase. Better still, because many goods on which this money are going to be taxed, government might have more money, and this would increase G. As well. Businesses would earn more profits, and this would result in an increase in business investment as well. It could, however, result in an increase in imports, too, since the U.S. has a current account deficit.

The reverse of this situation would be if all of the aggregate pay increase is saved. The marginal propensity to save is defined as "the ratio of change in saving to change in income" (Economic Concepts, 2011). If the ratio is 1, then all of an increase income would go to.....

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