In economics, the concept of propensity to consume refers to the pro

In economics, the concept of “propensity to consume” refers to the proportion of disposable income – income after taxes and transfers – that individuals spend on consumption. Marginal propensity to consume (MPC) is a related metric that quantifies induced consumption, the idea that as income increases a consumer’s consumption will also increase. MPC is the proportion of that additional income that an individual consumes; for example, if a household earns one extra dollar of disposable income, and the marginal propensity to consume is 0.65, then of that dollar, the household will spend 65 cents and save 35 cents.

In a standard Keynesian model, the MPC will be less than the average propensity to consume (APC) because in the short-run some (autonomous) consumption does not change with income. Short-term decreases in income do not lead to reductions in consumption, because people reduce savings to stabilize consumption. Over the long-run, as wealth and income rise, consumption also rises; the marginal propensity to consume out of long-run income is closer to the average propensity to consume.

Economists often distinguish between the marginal propensity to consume out of permanent income and the marginal propensity to consume out of temporary income, because if consumers expect a change in income to be permanent, then they have a greater incentive to increase their consumption. This implies that the Keynesian multiplier – the measure of that consumption’s impact on additional consumption in the marketplace – should be larger in response to permanent changes in income than it is in response to temporary changes in income (though the earliest Keynesian analyses ignored these subtleties). However, the distinction between permanent and temporary changes in income is often subtle in practice, and it is often quite difficult to designate a particular change in income as being permanent or temporary. What is more, the marginal propensity to consume should also be affected by factors such as the prevailing interest rate and the general level of consumer surplus that can be derived from purchasing.

Question ID: 09960

1. According to the passage, it can be inferred that:

(A) When a household’s income increases, its marginal propensity to consume decreases.
(B) Most households cannot accurately delineate between permanent and temporary changes in income.
(C) Decreases in income generally lead to short-run increases in marginal propensity to consume.
(D) Early Keynesian analyses did not allow for a Keynesian multiplier for income changes with regard to marginal propensity to consume.
(E) In the short run, it is impossible for a household to have a negative marginal propensity to consume.