Marginal propensity to consume

In economics, the marginal propensity to consume (MPC) is a metric that quantifies induced consumption, the concept that the increase in personal consumer spending (consumption) occurs with an increase in disposable income (income after taxes and transfers).

The proportion of disposable income which individuals spend on consumption is known as propensity to consume.

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.

According to John Maynard Keynes, marginal propensity to consume is less than one.

For example, suppose you receive a bonus with your paycheck, and it's $500 on top of your normal annual earnings.

The MPC can be more than one if the subject borrowed money or dissaved to finance expenditures higher than their income.

One minus the MPC equals the marginal propensity to save (in a two sector closed economy), which is crucial to Keynesian economics and a key variable in determining the value of the multiplier.

In a standard Keynesian model, the MPC is less than the average propensity to consume (APC) because in the short-run some (autonomous) consumption does not change with income.

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.

The MPC is not strongly influenced by interest rates; consumption tends to be stable relative to income.

In theory one might think that higher interest rates would induce more saving (the substitution effect) but higher interest rates also mean than people do not have to save as much for the future.

[3] This implies that the Keynesian multiplier 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).