[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

8,000
7,000
REAL CONSUMPTION
(BILLIONS OF 2000 DOLLARS)
6,000
5,000
4,000
3,000
2,000
1,000
1,500 2,500 3,500 4,500 5,500 6,500 7,500
REAL DISPOSABLE INCOME (BILLIONS OF 2000 DOLLARS)
Figure 30.4
CONSUMPTION AND
DISPOSABLE INCOME,
1960–2002
The chief factor that determines household consumption spending is disposable income,
the income available after taxes.
SOURCE: Economic Report of the President (2004).
In that case, the aggregate expenditures schedule will be flatter than if the MPS
is small.
Taxes and the Aggregate Expenditures Schedule Consumption spending
by households depends on their disposable income. For a given level of total
income, an increase in taxes reduces disposable income and leads to a fall in consumption.
Tax increases therefore shift the aggregate expenditures schedule down.
Tax decreases shift it up.
Taxes have a second effect on the aggregate expenditures schedule. The government’s
tax revenues typically go up when income rises and fall when income
declines. Personal income taxes, for instance, are related to income. Individuals with
higher incomes generally pay more in taxes. As total national income rises, tax revenues
rise. This statement implies that disposable income will increase by less than
the increase in total income. The same process works in reverse if income falls. As
total income declines, so do taxes. Since people pay less in taxes, disposable income
declines less than total income. For example, if the average tax rate on the last dollar
of income earned (the marginal tax rate) is 30 percent, then a $1 fall in income reduces
taxes by $0.30; disposable income falls by only $0.70.
What does this imply for the slope of the aggregate expenditures schedule?
Because changes in total income lead to smaller changes in disposable income when
taxes vary with income, the changes in consumption spending also will be smaller.
Assume the marginal propensity to consume out of disposable income is .9 and the
marginal tax rate is 30 percent. Of a $1 increase in total income, $0.30 must be paid
CONSUMPTION ∂ 669