Unit 3: Consumption and Savings

2/23/27

Consumption and Savings 

• Disposable Income 
  

- Income after taxes or net income

-DI= Gross income-Taxes

-2 Choices with disposable income households 

1. Consume (spend money on goods and services)
2. Save ( not spend money goods and services)

• Consumption 

- Household spending

- the ability to consume is constrained 

- The mount of disposable income  

- The propensity to consume

-Do households save if DI=0? No

-APS= S/DI= % DI that is not spent

• Average Perpencitry to Consume/ Save (APS) (APC)

- APC+APS=1

-1-APC=APS                *https://www.youtube.com/watch?v=mjU1w9jwYwY ( diposible income)

-1-APS=APS

-APC>: Disaving

-APS: Disaving

• Marginal Perpencity to Consume/ Save (MPC)(MPS)

-MPC

- Change in consumption/ change in disposable income

-% of every extra dollar earned 

-MPS

- Change in savings/ change in disposable income

- % of every extra dollar earned is saved 

-MPC-MPS=1

-1-MPC=MPS

-1-MPS=MPC

• Determinants of C and S
  

- Wealth

- Household Debt

- Expectations

- Taxes

2/24/17

• Spending Multiplier Effect

- An initial change in spending (C, Ig, G, Xn) causes a larger change in aggregate spending or aggregate demand.

-Multiplier= Change in AD/ Change in spending 

- Expenditures- Income and flow continuously which sets off a spending increase in the economy.

• Calculating the Spending Multiplier

- The spending multiplier can be calculated from the MPC or MPS

- Multiplier=1/ MPC OR 1/1-MPS

- Multipliers are positive where there is an increase in spending and negative when there is a decrease.

• Calculating Tax Multiplier 

- When the government taxes, the multiplier works in reverse  because now money is leaving the circular flow.

- -MPC/1-MPC or -MPC/MPS

- If there is a ta cut , then multiplier is positive because there is now more money in the circular flow.

2/27/17

Reasons why prices tend to be sticky or inflexible in a downward direction...

1. Fear of price wars 
2. wage contracts 
3. minimum wage 
4. Menu Costs
5. Moral effort and productivity 

• 3 Ranges of AD

- Range 1: Output is low, relative to the economy and full employment output; unemployment increases and GDPr decreases.
- Range 2: Output expands as spending increases.
- Range 3: The AS is vertical in the log-run, because the only effects would increase in AD we are already at full employment or an increase in demand by increasing output.

2/28/17

• Classical School 

- The trickle down theory: Help the rich first and then everyone else
- In the LR the economy will balance at full employment output
- The invisible hand

• Keynesian School 
  

- AD is key not AS
- In the LR we are dead
- Leaks cause recessions
- Saving causes recesssions