question_answer

 

Given below is the Consumption Function in an economy.       \[C=200+Y\] With the help of a numerical example, show that in this economy, as income increases Average Propensity to Consume (APC) will decrease.

or

The savings function of an economy is\[S=200+Y\]. The economy is in equilibrium when income is equal to Rs. 2,000. Calculate

 

(i) Investment Expenditure at Equilibrium Level of Income (I)

(ii) Autonomous Consumption\[(\overline{C})\]

(iii) Investment Multiplier (K)

 

Answer:

Consumption Function [c] =200+0.75 Y Suppose, Income (V) in the economy is Rs.400, Rs.500 or Rs.600 When      Y = 400               \[C=200+0.75~\times 400=Rs.\,\,500\] When,     Y = 500             \[C=200+0.75\times ~500=Rs.\,\,575\] When     Y= 600             \[C=200+0.75\times 600=Rs.\,\,650~~~~\]Therefore,

Income [Y]	Consumption[C]	APC [C/Y]
400	500	500/400=1.25
500	575	575/500=1.15
600	650	650/600 = 1.08

From the above table, it is clear that as income rises, Average Propensity to Consume (APC) decreases. Therefore, as shown in the given example as ,Income increases from Rs.400 to Rs.500 to Rs.600, APC decreases from 1.25 to 1,15 to 1.08, respectively.                               Or (i)Investment Expenditure Substituting the value of Y in saving function, We get \[S=-200+0.25\times 2,000=Rs.\,\,300\]At equilibrium level of income, S = I So,      I=Rs.300 Thus, investment expenditure at equilibrium level of income is Rs. 300. where, S = Savings I=Investments, Y=National Income/Income (ii) Autonomous Consumption Consumption+Saving=Income                                          ... (i) Autonomous consumption refers to that level of consumption expenditure where income is zero. Here, if income (Y) = 0, Saving (S) = \[-\]200 Putting these value in equation (i), We get Consumption+(\[-\]200) = 0 \[\Rightarrow \]Consumption = Rs.200 So, Autonomous Consumption =Rs.200 (iii) Investment Multiplier K=\[\frac{1}{MPS}\] From saving function, we know that Marginal Propensity to Save (MPS) = 025 Investment Multiplier (K)\[=\frac{1}{0.25}=4\]