Chapter 8 Review
8.1 – The income-consumption and income-saving relationships
Other things equal, a direct (positive) relationship exists between income
and consumption and income and saving.
o The consumption and saving schedules show the various amounts
that households intend to consume and save at the various income
and output levels, assuming a fixed price level.
The average propensities to consume and save show the fractions of any total
income that are consumed and saved: APC + APS = 1
The marginal propensities to consume and save show the fractions of any
change in total income that is consumed and saved: MPC + MPS = 1
The locations of the consumption and saving schedules (as they relate to real
GDP) are determined by:
(a) The amount of wealth owned by households
(b) Expectations of future income, future prices, and product
(c) The relative size of household debt
o The consumption and saving schedules are relatively stable.
8.2 – The interest rate-investment relationship
The immediate determinants of investment are:
(a) The expected rate of return
(b) The real interest rate
o The economy’s investment demand curve is found by:
Cumulating investment projects
Arraying them in descending order according to their
expected rates of return
Graphing the result Applying the rule that investment will be profitable up
to the point at which the real interest rate, i, equals the
expected rate of return, r.
The investment demand curve reveals an inverse relationship
between the interest rate and the level of aggregated
8.3 – Shifts in the investment demand curve
Shifts in the investment demand curve can occur as the results of changes in:
(a) The acquisition, maintenance, and operating costs of capital
(b) Business taxes
(d) The stocks of capital goods on hand
Either changes in interest rates or shifts in the investment demand curve can
shift the investment schedule.
The durability of capital goods, the variability of expectations, and the
irregular occurrence of major innovations all contribute to the high
fluctuations in investment spending.
8.4 – The multiplier effect
Through the multiplier effect an increase in:
o Ripples through the economy, ultimately creating a magnified
increase in real GDP.
The multiplier is the ultimate change in GDP divided by the initiating change
in investment or some other component of spending.