10.2 Nonincome Determinants of Consumption and Saving

What are the four main nonincome determinants of consumption and saving?

Wealth, borrowing, expectations, and real interest rates.

How does increased household wealth affect consumption and saving?

It increases consumption and decreases saving — this is called the wealth effect

What is the reverse wealth effect?

When household wealth drops (e.g., stock or real estate crash), consumption decreases and saving increases.

How does borrowing affect current consumption and saving?

Borrowing raises current consumption but lowers future consumption (because debt must be repaid). It also reduces wealth since wealth = assets − liabilities.

How do expectations about future prices or income affect current behavior?

• If prices are expected to rise → consume more now, save less

• If income is expected to fall → consume less now, save more

How do real interest rates affect consumption and saving?

• Lower real interest rates → more borrowing, more consumption, less saving

• Higher real interest rates → less borrowing, less consumption, more saving
  Effect is modest and mostly shifts spending toward credit-based goods

What causes a movement along a consumption or saving schedule?

A change in real GDP (or disposable income) — not a shift, just movement from one point to another.

What causes a shift of the entire consumption or saving schedule?

Changes in nonincome determinants like wealth, borrowing, expectations, or interest rates.

What happens when the consumption schedule shifts upward?

The saving schedule shifts downward — households consume more and save less at every income level.

What happens when the consumption schedule shifts downward?

The saving schedule shifts upward — households consume less and save more at every income level.

What’s the exception to opposite shifts in consumption and saving schedules?

• Tax changes — both schedules shift in the same direction:

• Higher taxes → both consumption and saving decrease

• Lower taxes → both consumption and saving increase

Are consumption and saving schedules stable over time?

Yes — unless there are major tax changes or big shifts in nonincome factors.

Why are these schedules usually stable?

Because households make decisions based on long-term goals like retirement or emergency savings, and many factors cancel each other out.

What’s the difference between a movement along a schedule and a shift of the schedule?

• Movement along = caused by a change in income or real GDP

• Shift = caused by nonincome factors like wealth, expectations, borrowing, or interest rates

What happens to consumption and saving schedules when taxes increase?

Both shift downward — less disposable income means less consumption and less saving.

What happens when taxes decrease?

Both shift upward — households have more disposable income to spend and save.

Why do consumption and saving schedules tend to be stable?

Because households make decisions based on long-term goals (like retirement or emergencies), and many short-term factors cancel each other out.

What does it mean when borrowing is called “negative saving”?

It means households are spending more than their income — borrowing now reduces future saving.

How does the 45° line help us visualize saving and dissaving?

• If C = DI, you're on the 45° line → no saving

• If C < DI, you're saving

• If C > DI, you're dissaving

Why is MPC the slope of the consumption schedule?

Because it shows how much consumption changes for every $1 change in income.

Why is MPS the slope of the saving schedule?

Because it shows how much saving changes for every $1 change in income.

Why might consumption fall even when disposable income rises?

If people are worried about the future (like during COVID-19), they may save more instead of spending, causing consumption to drop despite higher income.

What does a high APC (above 1) mean?

Households are dissaving — spending more than their income, often by borrowing or using past savings.

What does it mean if MPC = 0.75 and MPS = 0.25?

For every $1 increase in income, households spend $0.75 and save $0.25.

If the government increases taxes, what happens to consumption and saving schedules?

Both shift downward — less disposable income means less spending and saving.

If the consumption schedule shifts up, what happens to the saving schedule?

It shifts down — households are spending more and saving less at every income level.

What’s the formula for calculating saving?

S = DI − C — saving equals disposable income minus consumption.

What’s the formula for APC?

APC = C / DI — average proportion of income spent.

What’s the formula for MPC?

MPC = ΔC / ΔDI — fraction of change in income that is consumed.

What’s the formula for MPS?

MPS = ΔS / ΔDI — fraction of change in income that is saved.

Why is disposable income important?

It is the primary determinant of the amount’s households will save and consume.

Why is wealth important?

It is the dollar amount of all the assets that a household owns minus the dollar amount of its liabilties.

Movement from one point to another on a consumption schedule…….

Is caused by the change in real GDP.

Movement of the entire schedule (upward or downward) is caused by..

Changes in any one or more of the non income determinants of consumption just discussed.