Consumption and Savings

• Keynes lists numerous factors both subjective and

objective that might affect the “propensity to consume
out of income”
• Keynes argues that consumption primarily a function
of real income
• Propensity to consume and the marginal propensity
to consume
• The consumption function—consumption as a
function of income
• Keynes thought MPC would tend to decline with
income but usually drawn as constant
 Consumption and Savings
• APC = C/Y
• MPC = ΔC/ΔY
• C = a + bY where b =MPC
C 450 or C = Y
C = a+ bY

Slope = b
a

y yFE Y
 Consumption and Savings
• What is not consumed out of income is
saved
• Y=C+S
• APC + APS = 1
• SMPC + MPS = 1
S

yFE Y
y
-a
 Consumption and Savings
• Important to note that Keynes thought of
the consumption function as very stable
• Changes in consumption and savings
due to movements along the
consumption function (due to changes in
income) not due to shifts in the
consumption function (which would be
caused by changes in the propensity to
consume out of income)
 Equilibrium Income
For an equilibrium Agg D = Agg S
Y=C+I
Agg D 45 0

C + I = Agg D
S C

y* FE Y
At y* Agg D = Agg S and S = I
However y* need not be FE
If FE > y* then Aggs > Agg D and S > I
Firms will find inventories accumulating and will
 The Multiplier
• R. F. Kahn (1931)
– Changes in autonomous expenditures, such as
investment, will have a multiplied impact on income
– Initial expenditure change will affect incomes by that
amount
– Income change will then affect the consumption
expenditures of those affected (by change in income x
MPC)
– This will affect other peoples’ incomes and will alter their
expenditures in the same way
– Ultimate effect will be the change in autonomous
expenditure times the multiplier where M = 1/(1 – MPC)