What is Marginal Propensity to Consume?

Marginal Propensity to Consume

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Marginal Propensity to Consume

The Marginal Propensity to Consume (MPC) is an economic concept that quantifies the tendency of consumers to spend additional income. It is the proportion of an additional income that a consumer spends on consumption rather than saving it. In other words, it indicates how changes in income affect consumption levels.

The formula to calculate MPC is:

MPC = Change in Consumption / Change in Income

For example, if a household earns an extra dollar (change in income) and spends 80 cents of it (change in consumption), the MPC is 0.8 (or 80%).

This measurement is important for governments and economists to understand as it helps predict the impact of various economic policies and events on consumer spending. If the MPC is high, consumers are likely to spend a large portion of additional income, which can stimulate economic growth. Conversely, a low MPC indicates consumers are more likely to save additional income.

It’s important to note that MPC values range from 0 to 1. A value of 0 indicates that consumers save all of their income, while a value of 1 indicates that consumers spend all of their income.

Example of Marginal Propensity to Consume

Assume that a family receives a $1,000 bonus at the end of the year. If the family decides to spend $700 of that bonus on new furniture and save the remaining $300, then we can calculate the family’s marginal propensity to consume (MPC) as follows:

MPC = Change in Consumption / Change in Income

Here, the Change in Income is $1,000 (the bonus), and the Change in Consumption is $700 (the money spent on the new furniture).

So, the MPC would be:

MPC = $700 / $1,000 = 0.7 or 70%

This means that for every additional dollar this family earns, they will spend 70 cents and save 30 cents.

In the context of economic policy, understanding the MPC is important as it gives insight into how families might respond to changes in their income, such as tax cuts or stimulus payments. Policymakers can use this information to estimate how such changes might affect overall consumer spending and the broader economy.

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