Marginal Propensity to Consume (MPC)

The marginal propensity to consume (MPC) is the share of an additional unit of income that a household or an economy spends on goods and services rather than saves. If someone receives an extra $100 and spends $70 of it, their MPC is 0.7. The remainder, the share that is saved, is called the marginal propensity to save (MPS), so the two always add up to one.

The MPC was introduced by John Maynard Keynes in his General Theory of 1936, which argued that consumption rises with income but by less than the full increase. It is a building block of Keynesian economics and determines the size of the multiplier effect. It is distinct from the average propensity to consume, which is total consumption divided by total income.

Think about what you would do with an unexpected bonus. One person might use all of it to pay overdue bills and buy groceries; another might put almost all of it in a savings account. The first person has a high MPC, the second a low one.

Across a whole country, the MPC describes how much of any new income turns into shopping, and how much is put aside. That matters for governments trying to support the economy: money given to people who spend it quickly moves through the economy faster than money given to people who save it.

The MPC is measured as the change in consumption divided by the change in income:

• $\Delta C$ is the change in consumption spending.
• $\Delta Y$ is the change in disposable income.

The marginal propensity to save follows directly as $\text{MPS} = 1 - \text{MPC}$. Example: a household's after-tax income rises from 40,000 to 41,000 a year and its spending rises from 34,000 to 34,800. Then $\text{MPC} = \frac{800}{1{,}000} = 0.8$ and $\text{MPS} = 0.2$. In a simple economy with that MPC, the spending multiplier would be $\frac{1}{1 - 0.8} = 5$, although taxes and imports make real multipliers much smaller.

• Income and wealth. Lower-income households generally spend a larger share of extra income than higher-income ones, which is why the MPC is central to debates on inequality and demand.
• Liquidity. Households with little cash or no access to credit, often described as living hand to mouth, spend windfalls quickly; research by Greg Kaplan and Giovanni Violante highlighted that even some households with substantial illiquid wealth, such as a house or pension, behave this way.
• Temporary or permanent change. The permanent income hypothesis of Milton Friedman (1957) and the life-cycle hypothesis of Franco Modigliani predict that people spend little of a one-off windfall but adjust fully to a lasting rise in income.
• Uncertainty. When jobs feel insecure, the precautionary motive pushes households to save more of any extra income.
• Size and framing. Studies in behavioral economics find that small windfalls, or money labelled for a purpose, may be spent differently from large or unlabelled sums.

Economists have measured the MPC using tax rebates, lottery wins and government cheques. A study by Jonathan Parker, Nicholas Souleles, David Johnson and Robert McClelland, published in the American Economic Review in 2013, found that US households spent about 12% to 30% of the 2008 economic stimulus payments on nondurable goods within three months, and around 50% to 90% once purchases of durables such as cars were included. Responses were largest among older, lower-income and home-owning households. Research on the 2020–2021 pandemic payments found lower spending shares on average, partly because many households used the money to pay down debt or build savings. Such estimates show that the MPC out of temporary income is well above what strict Ricardian equivalence predicts but below the near-one assumed in simple textbook models.

The MPC guides the design of fiscal policy. Governments seeking a quick boost to demand often target transfer payments, such as unemployment benefits or cash grants, at groups with high MPCs. Central banks track it because changes in interest rates and the wealth effect of asset prices pass through to spending according to how households respond. In developing economies, cash transfers to poor households and inflows of remittances tend to have high MPCs, supporting local demand. A limitation is that the MPC is not fixed: it varies across households, over the business cycle and with expectations, so a single national figure can mislead.

• NBER: Consumer Spending and the Economic Stimulus Payments of 2008