Consumption is determined by propensity to consume and disposable income. We assume MPC to remain constant over time, i.e. we assume the consumption curve to be linear. When income rises, consumption also rises but not as much as the income because a part is saved. Since Keynes was concerned with the short run, he assumed the price level, interest rate and the stock of wealth to remain constant.
Consumption(C) is a function(f) of income(Y).
C = f(Y)
The Keynesian linear consumption function can be written as:
C = a + bY
a = autonomous consumption(when income is zero) or intercept
b = MPC or slope of the consumption function
Now, we must understand the relationship between MPC and APC.
- MPC or marginal propensity to consume is the ratio of a unit change in consumption to a unit change in consumption.
- APC or average propensity to consume is the ratio of the level of consumption at a particular income level.
- While MPC remains constant, the average propensity to consume(APC) falls with the increase in income. The fall in APC means that increase in consumption is not proportional increase in income.
- MPC is always lesser than APC.