Question

A Chief Economist (CE) in Utopia once said “Income is either consumed or saved”.

i. From the CE’s statement, write an expression for the marginal propensity to consume (MPC) and marginal propensity to save (MPS).
ii. From your results in (iii), compute the value of the national income multiplier (k).
iii. Explain to the President of Utopia the importance of knowing the size of the MPS.

Answer 1

i. MPC + MPS =1

or MPS =1—MPC or MPC =1—MPS

Explanation:- MPC +MPS =( C/Y) +(S/Y) =   ( C+S)/Y = Y/Y =1 ( C+S =Y)

(The  addition of increased consumption and increased savings equals to increased income)

2. National income multiplier is the ratio between change in the national income (Y) and change in the aggregate expenditure. Change in the aggregate expenditure may be caused by change in the any components of the aggregate expenditures like C,I ,G or Xn.   

National income multiplier (Y/ AE) = 1/(1—MPC) =1/MPS

3...

• The Mps is a key variable as it determines the size of the multiplier in the economy , multiplier (K) =1/MPS
• The MPS shows the change in the level of savings at different levels of income of the society, consequently it also depicts the change in the consumption when income of the society changes.
• In Keynesian economics it quantifies the saving income relationship which is another side of the consumption income relationship.