Wealth inequality and the marginal propensity to consume - Washington Center for Equitable Growth

Here is an interesting link to today's discussion on the MPC for wealthy and less wealthy individuals and its impact on the economy. As noted in class, the poor of a nation tend to have a much higher MPC than the wealthy. Knowing this can lead to much better economic stimulus overall when deciding on policies that allocate government spending.

Wealth inequality and the marginal propensity to consume - Washington Center for Equitable Growth

Carroll and his co-authors find an aggregate MPC, or average MPC for all households, ranging between 0.2 and 0.4. Their estimate is on the high end of other estimates. Their results mean, to return to the question posed above, if I gave you $10, you’d spend between $2 and $4.

Not everyone would spend these extra bucks the same way, of course, because not everyone has the same marginal propensity to consume. The authors find a wide dispersion in the MPC across the wealth distribution. For the most part, less wealthy households have much higher MPCs than wealthier households. But the economists find that the ratio between wealth and income is the key determinant of the MPC. 

There are actually quite a few households in their model that have a fair amount of wealth, but a low wealth-to-income ratio, which in turn results in a high marginal propensity to consume. These households may be the “wealthy hand-to-mouth” that economist Greg Kaplan and Justin Weidner, both of Princeton University, and Giovanni L. Violante, of New York University, have written about. In contrast, a household that has a lot of liquid assets, such as investments in the stock market they could easily withdraw, tend to have a much lower MPC. 

So what’s the actual real world importance of estimating marginal propensities to consume? Knowing which households are the most likely to spend an extra dollar can help make fiscal policy more effective. According to Carroll and his co-authors, any fiscal stimulus targeted toward individuals in the bottom half of the wealth distribution would be 2 to 3 times more effective than just a blanket stimulus.