La Consolacion College - Tanauan City, Batangas

ECN 11

University of the Philippines SCHOOL OF ECONOMICS Economics 11: Markets and the State 1st Semester, AY 2021-2022 Discussion Questions for Chapter 21 and 22 Peñaredondo, Clarisse A. Econ 11 THD Instruction: Answer the following as best as you can. 1. Suppose that a rise in income from P60,000 to P70,000 leads to an increase in consumption from P47,000 to P54,000. a. Solve for the marginal propensity to consume (MPC) and marginal propensity to save (MPS). I. MPC: Essentially, the marginal propensity to consume is the extra amount that people consume when they receive an extra dollar of disposable income. It is computed as: change in consumption expenditure / change in disposable income. Solution: II. MPS: Along with the marginal propensity to consume goes its mirror image the marginal propensity to save (MPS), which is the extra saving generated by an extra dollar of disposable income. It is computed as: net savings / change in disposable income. Solution: b. In a closed economy, what is the mathematical relationship between MPC and MPS? What explains this? Basically, each dollar of disposable income not consumed is saved and each extra dollar of disposable income goes either into extra consumption or into extra saving. That said, since the part of each dollar of disposable income that is not consumed is necessarily saved, MPS = 1 – MPC, which also denotes that the sum of MPC and MPS is equal to unity (i.e., MPC + MPS = 1). Hence, if one is given, we can find out the other because the sum of MPC and MPS is equal to unity. c. What is the slope of the consumption function that can be derived from this? From this, it can be derived that the slope of the consumption function is its marginal propensity to consume (MPC). This is because the slope of the consumption function measures the change in consumption per peso change in disposable income, which is essentially the formula to compute the marginal propensity to consume (MPC). Therefore, Income Consumption MPC 60,000 47,000 70,000 54,000 7,000 / 10,000 = 0.70