Definition: the ratio of change in C from a change in DI, that caused the change in C

MPC = C/ DI = Slope of Consumption

Function

Movement along› Changes in DI cause changes in

consumption – move from point to point on CF (A to B)

A

B

Shifts of the line› Caused by a change in C that is not

because of a change in DI› 3 factors

Expectations of future outcomes Value of wealth/accumulation of assets Price levels/purchasing power

CF0

CF1

C + I + G + (X-IM) › Reflects total expenditure at all levels of

GDP Equilibrium GDP

› Spending = output

EGDP > PGDP› Spending too high› Price levels too low

Result › Inflationary gap formed› Inflation increases

PGDP

45 *

C + I + G + (X-IM)

EGDP

Inflationary Gap

o How to Fix ito Increase price levelso Increase taxes o Reduce government

spending

EGDP < PGDP› Spending too low› Price levels to high

Result› Recessionary gap› Unemployment rises

45 *

C + I + G + (X-IM)

EGDP PGDP

Recessionary Gap

How to fix it Cut taxes Lower price levels Increase government

spending

…they also recess abroad› We have less money to spend on imports› Decreases exports for foreign countries› Exports decrease, AD decreases, GDP

decreases… RECESSION