MACROECONOMICS RELATIONSHIP

CONSUMPTION process of using final good and services for satisfying wants and needs

Consumption as to durability
a. Durable goods relatively last 3yrs & more (example: car, washing machine)
b. Non-durable goods goods that are used up quickly, with a life span of less than 3yrs (ex: foods)
c. Services

Determinants of aggregate Consumption

a. Household income
b. Household wealth
c. Interest rate
d. Household borrowing
e. Household expectation

Income, Consumption & Savings

A Household can do two:
1. To buy Goods and Services that is to consume
2. It can save

Disposable Income (YD) (DI) (Y)

- Household income
- The sum left from the income after tax has been deducted
- In its basic terms the money in your pocket
-
Income = Consumption + Savings

Personal Consumption it is the actual spending of YD

Consumption = Income Savings
( C = Y S)
Savings
- income not spent YD > C - savings
- portion of income that is not consumed in a given period YD = C - 0 savings
Savings = Income Consumption YD < C - dissaving
( S = YD C )

Consumption function relationship between YD and C

C = f(Y) - C is dependent on income

Consume goods and services without disposal income

1. when the goods were given free from promotion
2. by borrowing

AVERAGE PROPENSITY TO CONSUME

- portion of total income that is spent or consumed

AVERAGE PROPENSITY TO SAVE

- portion of total income that is not spent or consumed
Related concept to the consumption function:
MARGINAL PROPENSITY TO CONSUME
- That fraction or portion of a change in income that is consumed or spent

MARGINAL PROPENSITY TO SAVE

- That fraction or portion of a change in income that is saved

MULTIPLIER EFFECT
- Refers to the idea that an initial spending rise can lend to an even greater increase in national income
- Initial change in aggregate demand can cause further change in aggregate output for the economy
- Ratio of a change in GDP to the initial change in spending

Three points about multiplier

1. initial change in spending is usually associated with investment spending because of the investment
volatility. But change in consumption (unrelated to changes in income), net export, and government
purchases also lead to the multiplier effect
2. initial change in spending associated with investment spending results from a change in real interest
rate and / or shift of the investment demand curve
3. Implicit in the preceding point is that the multiplier works in both directions. An increase in initial
spending will create a multiple increase in GDP, while a decrease in spending will create a multiple
decrease in GDP

Multiplier = Change in real GDP Change in GDP = Multiplier x initial change in spending
Initial change in spending

2 facts about multiplier

1. The economy supports repetitive, continuous flows of expenditures and income spent by a household
and received by another
2. An initial change in spending will set off a spending chain throughout the economy

MULTIPLIER & MARGINAL PROPENSITIES

Multiplier = 1 or 1 mps = 1 mpc
1 mpc mps

INVESTMENT
- Consist of expenditures on a new plants, capital equipment, machinery, inventories and so on

The investment decision is a:

1. Marginal benefits 2. Marginal Cost
- Expected rate of return - Interest Rate
- Is the business hope to realize - must be paid for borrowing funds

Basic determinants of investment spending

1. Expected return ( profit )
2. Rate of interest

ERR (r) = profit profit = net expected revenue - cost

Cost Interest rate = cost x interest rate
ERR > i = profitable
ERR = i = normal profit
ERR < i = unprofitable

Nominal rate of interest vs Real rate of interest

Nominal rate of interest expressed in current dollar or peso
Real rate of interest interest rate adjusted to inflation ; Adjusted value
Real rate of interest = Nominal inflation

INVESTMENT DEMAND CURVE

- Inverse / negative relationship
- Shows the amount of investment forthcoming at each real interest rate

Shift of the investment demand curve

1. Acquisition, Maintenance & operating cost

2. Business taxes

3. Technological changes

4. Stock of capital goods on hand

5. Planned Inventory changes

6. Expectation

7. Instability of investment

Several interrelated factors that explain the variability of investment

Variability of expectation

Durability

Irregularity of innovation

Variability of profits