Marginal propensity to consume (MPC) is defined as the share of additional income that a consumer spends on consumption. That means it describes the percentage of additional income they spend on buying goods and services, instead of saving. Hence, marginal propensity to consume can be calculated as the change in consumption (ΔC) divided by the change in income (ΔY). This can be expressed using the following formula:
MPC = ΔC / ΔY
Starting from there, we will analyze that formula in the following paragraphs and learn how to calculate marginal propensity to consume step-by-step.
1) Find the Change in Income (ΔY)
First, we have to find the change in income (ΔY). Note that the Δ sign is the Greek letter delta, which is commonly used as a mathematical symbol for a difference between two values. That means the change in income describes the change in the level of income between a certain point in the past (Y0) and a more recent point in time (Y1). Thus, to find the change in income, all we have to do is subtract Y0 from Y1.
For example, let’s say you have a friend called Emily, who works at a restaurant as a waitress. At that restaurant, she earns a salary of USD 25,000 per year. However, because Emily is such a talented and hard-working employee, she’s soon promoted to be the assistant restaurant manager. Along the new position comes a raise. Thus, now her salary is USD 30’000 per year. As a result, the change in Emily’s income amounts to USD 5,000 (i.e., 30,000 – 25,000).
2) Find the Change in Consumption (ΔC)
Next, we have to calculate the change in consumption (ΔC) to find MPC. Again, that means we are looking for the difference in the level of consumption between two specific points in time (i.e., C0 and C1). More specifically, we are calculating the change in consumption before and after the change in income (see above). The reason for this is that we want to find out how much of the additional income is used for consumption.
To illustrate this, let’s revisit your friend Emily. Before her promotion, Emily spent about USD 20,000 out of her USD 25,000 salary on consumption. This includes all kinds of expenditures, such as rent, food, clothing, and so on. In addition to that, she put the remaining USD 5,000 in her savings account. After the promotion, Emily has more money available, so she decides to use some of it to go on vacation. As a result, her consumption spending increases from USD 20,000 to USD 23,000. Thus, the change in Emily’s consumption adds up to USD 3,000 (i.e., 23,000 – 20,000).
3) Divide Change in Consumption by Change in Income
Once we have calculated both the change in income and the change in consumption, we can calculate the marginal propensity to consume by dividing the change in consumption by the change in income. Note that the value of MPC will always range from 0 to 1. If all additional income is used for consumption, ΔY is equal to ΔC, which results in an MPC of 1. Meanwhile, if none of the additional income is used for consumption, ΔC is 0, which results in an MPC of 0.
For example, in the case of your friend Emily, the change in income is USD 5,000. Out of this additional income, she spends USD 3,000 on her vacation. Therefore, her marginal propensity to consume is 0.6 (i.e., 3,000/5,000). That means she spends 60% of her additional income on consumption. However, if Emily decided to extend her vacation and spend all the additional income on it, her MPC would be 5,000/5,000, which is equal to 1, or 100%. Similarly, if she decided to save all her additional money, instead, her MPC could be calculated as 0/5000, which is equal to 0.
In a Nutshell
Marginal propensity to consume (MPC) is defined as the share of additional income that a consumer spends on consumption. It can be calculated as the change in consumption (ΔC) divided by the change in income (ΔY). Thus, the value of MPC will always range from 0 to 1. If all additional income is used for consumption, MPC is 1, because ΔY is equal to ΔC. Meanwhile, if none of the additional income is used for consumption, MPC is 0, because ΔC is 0.