Marginal Propensity To Invest

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DEFINITION of 'Marginal Propensity To Invest'

The ratio of change in investment to change in income. The marginal propensity to invest shows how much one additional unit of income will be used for investment purposes. Typically, investment increases when income increases, and decreases when income decreases. The greater the marginal propensity to invest, the more likely it is that additional income is not consumed, but instead invested.

BREAKING DOWN 'Marginal Propensity To Invest'

In Keynesian economics, a general principle states that whatever is not consumed is saved. Increases (or decreases) in income levels induce individuals and businesses to do something with the extra cash. Consumption tends to be impacted more by increases in income, as demonstrated by increased consumption levels when countries develop.

The marginal propensity to save, while typically smaller than the marginal propensity to consume, does have an impact on the multiplier effect and does affect the slope of the aggregate expenditures function. The larger the marginal propensity to invest, the larger the multiplier. For a business, increases in income can be the result of reduced taxes, changes in costs or changes in revenue.

Marginal propensity to invest is calculated as ΔI=/ΔY, meaning the change in value of the investment function (Im) with respect to the change in value of the income function (Y). It is thus the slope of the investment line. For example, if a $5 increase in income results in a $2 increase in investment, the marginal propensity to invest is 0.4 ($2/$5).

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