Consumption and the Aggregate Expenditures Model
13.1 Determining the Level of Consumption
KEY TAKEAWAYS
- Consumption is closely related to disposable personal income and is represented by the consumption function, which can be presented in a table, in a graph, or in an equation.
- Personal saving is disposable personal income not spent on consumption.
- The marginal propensity to consume is MPC = ΔC/ΔYd and the marginal propensity to save is MPS = ΔS/ΔYd. The sum of the MPC and MPS is
1.
- The current income hypothesis holds that consumption is a function of current disposable personal income, whereas the permanent income hypothesis holds that consumption is a function of permanent income, which is the income households expect to
receive annually during their lifetime. The permanent income hypothesis predicts that a temporary change in income will have a smaller effect on consumption than is predicted by the current income hypothesis.
- Other factors that affect consumption include real wealth and expectations.