AP Economics
Mr. Bernstein
Module 16:
Income and Expenditure
February 2016
AP Economics
Mr. Bernstein
Income and Expenditure
• Objectives - Understand each of the following:
• The nature of the multiplier, which shows how initial
changes in spending lead to further changes
• The meaning of the aggregate consumption function,
which shows how current disposable income affects
consumer spending
• How expected future income and aggregate wealth
affect consumer spending
• The determinants of investment spending
• Why investment spending is considered a leading
indicator of the future state of the economy
2
AP Economics
Mr. Bernstein
The Multiplier: An Informal Introduction
•
•
•
•
•
•
•
•
Marginal Propensity to Consume (MPC)
Marginal Propensity to Save (MPS)
MPC = D Consumer Spending / D Disposable Income
MPS = D Saving / D Disposable Income
MPC + MPS = 1
So MPC = (1 - MPS) and MPS = (1 – MPC)
Increase is Yd typically increases both MPC and MPS
Real GDP is often represented as Y, Disp. Income as Yd
3
AP Economics
Mr. Bernstein
The Multiplier: An Informal Introduction, cont.
• Autonomous Change in Aggregate Spending (AAS)
• D Y = 1 / (1-MPC) x AAS
• Multiplier = D Y / D AAS = 1 / (1-MPC)
Example?...
4
AP Economics
Mr. Bernstein
Current Disposable Income and Consumer
Spending
• Consumption Function:
• C = A + (MPC x Yd) …(A = Autonomous Consumer Spending
= not induced by changes in income)
• Increase in Yd causes movement upward along C curve
• Consumption Function Shifters
•
•
•
•
Expected Changes in Future Yd
Permanent Income Hypothesis
Changes in Aggregate Wealth
Life-Cycle Hypothesis
5
AP Economics
Mr. Bernstein
Investment Spending
• Most recessions originate in changes in I
6
AP Economics
Mr. Bernstein
Interest Rates and Investment Spending
• Decrease in real rates causes increase in I…why?
7
AP Economics
Mr. Bernstein
Other Factors Influencing Investment Spending
• Increase in Expected Future GDP or in Production Capacity
8