Question

What is marginal propensity to consume?

Hint:

A higher MPC means that consumers are more likely to spend any extra income, boosting economic activity. A lower MPC means consumers are more likely to save, which could dampen economic growth.

Answer 1

Step 1: Defining Marginal Propensity to Consume (MPC):
Marginal Propensity to Consume (MPC) is the proportion of any additional income that a consumer will spend on goods and services rather than save. It measures the responsiveness of consumption to a change in income. The MPC is calculated as the change in consumption divided by the change in income. The formula is as follows:
\[ \text{MPC} = \frac{\Delta C}{\Delta Y} \] Where:
- \(\Delta C\) is the change in consumption, and
- \(\Delta Y\) is the change in income.
Step 2: Importance of MPC in Economics:
The marginal propensity to consume is a key variable in determining the effectiveness of fiscal policies and understanding consumer behavior. A high MPC indicates that consumers tend to spend a larger portion of any additional income, which can stimulate economic growth by boosting aggregate demand. Conversely, a lower MPC indicates that consumers are more likely to save additional income, which may lead to slower economic growth.
Step 3: Role of MPC in Economic Theory:
MPC plays a central role in the Keynesian consumption function, which postulates that consumption is largely determined by income. According to Keynesian economics, when individuals receive more income, they are likely to consume a significant portion of it. This consumption drives economic activity and creates a multiplier effect in the economy. The higher the MPC, the greater the effect on aggregate demand and overall economic output.
Step 4: Final Conclusion:
The marginal propensity to consume (MPC) indicates how much of an additional dollar of income will be spent on consumption. A higher MPC means more spending, which stimulates economic activity, while a lower MPC indicates greater saving, potentially reducing economic growth.