Question

You are given the following information about the economy of Australia. $$\begin{array}{cc} \text { Disposable income } & \text { Saving } \\ \hline \text { [billions of dollars per year) } \\ \hline 0 & 0 \\ 100 & 25 \\ 200 & 50 \\ 300 & 75 \\ 400 & 100 \end{array}$$ You are given the following information about the economy of Australia. $$\begin{array}{cc} \text { Disposable income } & \text { Saving } \\ \hline \text { [billions of dollars per year) } \\ \hline 0 & 0 \\ 100 & 25 \\ 200 & 50 \\ 300 & 75 \\ 400 & 100 \end{array}$$ Calculate the marginal propensity to save.

Short answer

The Marginal Propensity to Save (MPS) is 0.25.

Step-by-step solution

Understanding Marginal Propensity to Save (MPS)

Marginal Propensity to Save (MPS) is the fraction of any change in disposable income that is saved. It can be calculated using the formula: \( MPS = \frac{Change \ in \ Saving}{Change \ in \ Disposable \ Income} \)

Identify Changes in Income and Saving

Look at the changes in disposable income and corresponding changes in saving. For example, as disposable income increases from 0 to 100 billion dollars, saving increases from 0 to 25 billion dollars.

Calculate the First MPS

Using the first change in values: \( Change \ in \ Saving = 25 - 0 = 25 \ billion \ dollars \) \( Change \ in \ Disposable \ Income = 100 - 0 = 100 \ billion \ dollars \) \( MPS = \frac{25}{100} = 0.25 \)

Calculate the Subsequent MPS values

Verify consistency by calculating MPS using other value changes: \( Change \ in \ Saving = 50 - 25 = 25 \ billion \ dollars \ (from \ income \ 100 \ to \ 200) \) \( Change \ in \ Disposable \ Income = 200 - 100 = 100 \ billion \ dollars \) \( MPS = \frac{25}{100} = 0.25 \) Continue similarly for the remaining income brackets:

Validate MPS

All calculated MPS values should be the same. Final calculations: \( Change \ in \ Saving = 75 - 50 = 25 \ billion \ dollars \ (from \ income \ 200 \ to \ 300) \) \( Change \ in \ Disposable \ Income = 300 - 200 = 100 \ billion \ dollars \) \( MPS = \frac{25}{100} = 0.25 \) \( Change \ in \ Saving = 100 - 75 = 25 \ billion \ dollars \ (from \ income \ 300 \ to \ 400) \) \( Change \ in \ Disposable \ Income = 400 - 300 = 100 \ billion \ dollars \) \( MPS = \frac{25}{100} = 0.25 \)

Conclusion

Since the MPS is consistent across all ranges of income given, the MPS for the economy of Australia is 0.25.

Key concepts

Disposable Income

Disposable income is essentially the amount of money that households have available for spending and saving after taxes have been accounted for. It is a critical factor in determining an individual's or household's spending power. In simpler terms, it's the money left over after you've taken care of all your tax obligations.
In the given example, disposable income ranges from 0 to 400 billion dollars. People can use this disposable income in two ways:

• Spending on goods and services.
• Saving for future needs.

Understanding how individuals allocate their disposable income is fundamental for economists to forecast economic trends and make policy decisions.

Saving Behavior

Saving behavior refers to how individuals decide to allocate portions of their disposable income to savings rather than consumption. This behavior can vary widely among different people and economies. Savings act as a financial cushion for individuals, providing security for future uncertainties. As observed in the exercise, people in Australia are saving a portion of their disposable income. Here's a quick breakdown:

• At 100 billion dollars of disposable income, savings are 25 billion dollars.
• At 200 billion dollars of disposable income, savings are 50 billion dollars.

What we notice is that as disposable income increases, saving also increases. This consistent pattern helps in calculating the Marginal Propensity to Save (MPS). A higher tendency to save contributes to capital formation and economic growth.

Economic Calculations

Economic calculations often involve determining key measures like the Marginal Propensity to Save (MPS). The MPS indicates the portion of additional income that a household saves rather than spends. Calculating MPS uses the formula:
\[ MPS = \frac{Change \ in \ Saving}{Change \ in \ Disposable \ Income} \]
For example, when the disposable income increases from 0 to 100 billion dollars and savings increase from 0 to 25 billion dollars, the calculated MPS is:
\[ MPS = \frac{25}{100} = 0.25 \]
This consistent MPS value of 0.25 across different ranges indicates that Australians save 25% of any additional disposable income.
These calculations are crucial for understanding how income changes affect savings and overall economic activity. Policymakers use this information to design economic policies targeting savings and investments, which are vital for sustainable economic growth.