Business Economics · Determination of National Income

Consumption, Saving and Investment Functions for CA Foundation

Updated 1 October 2026 · Fact-checked

The consumption function shows how household consumption depends on income: C = a + bY. APC is C ÷ Y and MPC is ΔC ÷ ΔY. Saving is income not consumed, so APC + APS = 1 and MPC + MPS = 1. Solve by finding changes in income, consumption and saving.

Understand Consumption, Saving and Investment Functions

Households split their income into two parts: what they spend on consumption and what they save. Keynes said consumption depends mainly on current income. As income rises, consumption rises, but by less than the rise in income. This is called the fundamental psychological law of consumption.

The consumption function is written C = a + bY. Here a is autonomous consumption, the amount spent even when income is zero. b is the MPC, the slope of the line. bY is induced consumption, which depends on income.

The saving function follows from the fact that saving is income minus consumption: S = Y − C. So S = −a + (1 − b)Y. At zero income, saving is negative (equal to −a), which means people dissave by borrowing or using past wealth. The slope of the saving function is MPS = 1 − b.

Average measures look at the total at one income level. Marginal measures look at the change when income changes. APC = C ÷ Y and APS = S ÷ Y. MPC = ΔC ÷ ΔY and MPS = ΔS ÷ ΔY. Since C + S = Y, the two averages add up to 1 and the two marginals add up to 1.

Investment is spending on capital goods such as machines, buildings and inventories. The investment function links it to factors like the rate of interest and the marginal efficiency of capital (expected profit rate on new capital). A lower interest rate or higher expected profit raises investment. Saving is mainly decided by income. Other determinants include wealth, interest rate, expectations and taxes. In simple Keynesian models, investment is often treated as autonomous, meaning fixed and independent of income.

Key formulas to remember

Consumption function: C = a + bY; a = autonomous consumption, b = MPC, Y = income.
Saving function: S = Y − C = −a + (1 − b)Y; Slope of the saving function is MPS.
Average propensity to consume: APC = C ÷ Y; Measured at one income level.
Marginal propensity to consume: MPC = ΔC ÷ ΔY; For C = a + bY, MPC = b.
Average propensity to save: APS = S ÷ Y; APC + APS = 1.
Marginal propensity to save: MPS = ΔS ÷ ΔY; MPC + MPS = 1.
Break-even income: Y = C, so Y = a ÷ (1 − b); At this income saving is zero and APC = 1.
Investment: I = ΔK (addition to capital stock); Investment rises when the interest rate falls or the marginal efficiency of capital rises.

How to solve Consumption, Saving and Investment Functions questions

Use this method for any numerical or conceptual question on propensities and functions.

1Identify what is given: income, consumption, saving, or the function C = a + bY.
2If saving is missing, find it using S = Y − C. If consumption is missing, use C = Y − S.
3Decide whether the question asks for an average (one level of income) or a marginal (a change) measure.
4For marginal measures, compute ΔY, ΔC or ΔS between the two income levels.
5Apply the formula: APC = C ÷ Y, MPC = ΔC ÷ ΔY, and so on.
6Cross-check using APC + APS = 1 or MPC + MPS = 1.
7Match your answer to the options, checking that the units and the decimal or fraction form fit.

Quickest way: Use the add-to-one rule and read the slope

When to use it: In MCQs with a given function or a table of two income levels.

If the function is C = a + bY, read b directly as MPC. Then MPS = 1 − b without any calculation.
If you know one propensity, get its partner by subtracting from 1.
For a table, subtract the first row from the second row to get ΔY and ΔC. Divide once.
For break-even income, set Y = a + bY and solve Y = a ÷ (1 − b).
Eliminate options where MPC is above 1 or negative in normal cases. MPC and MPS lie between 0 and 1 in the standard model.
Skip long theory options if two statements look similar and unsure. Wrong answers cost 0.25.

Common mistakes in Consumption, Saving and Investment Functions

Treating APC and MPC as the same thing.
Both are ratios of consumption to income, so they look alike.
Fix: APC uses total C and total Y. MPC uses only the changes ΔC and ΔY.
Using total values to find MPC.
Students divide C by Y at the second income level out of habit.
Fix: Always subtract the two rows first, then divide ΔC by ΔY.
Forgetting that MPC + MPS = 1 and giving MPS as the MPC.
Reading the question too fast under time pressure.
Fix: Underline whether the question asks for consumption or saving, then use 1 minus the other.
Saying saving is zero when income is zero.
Students assume nothing can be saved without income.
Fix: At zero income consumption equals a, so saving equals −a. This is dissaving.
Thinking investment depends only on the interest rate.
One determinant gets stressed in class.
Fix: Remember the marginal efficiency of capital and expectations also matter. Investment is compared against the interest rate.
Writing APC as always less than 1.
Students remember that APC falls as income rises and assume it is below 1 at every income level.
Fix: APC falls as income rises. It exceeds 1 only at incomes below break-even, equals 1 at break-even, and is below 1 at incomes above break-even.

Worked examples

Example 1

When income rises from ₹1,000 to ₹1,400, consumption rises from ₹800 to ₹1,040. What is the MPC? (a) 0.5 (b) 0.6 (c) 0.8 (d) 0.74

Show the solution

ΔY = 1,400 − 1,000 = 400.
ΔC = 1,040 − 800 = 240.
MPC = ΔC ÷ ΔY = 240 ÷ 400 = 0.6.

Answer: (b) 0.6

Example 2

For the consumption function C = 200 + 0.75Y, what is the saving at an income of ₹2,000? (a) ₹300 (b) ₹500 (c) ₹1,500 (d) ₹1,700

Show the solution

C = 200 + 0.75 × 2,000 = 200 + 1,500 = 1,700.
S = Y − C = 2,000 − 1,700 = 300.

Answer: (a) ₹300

Example 3

For C = 200 + 0.75Y, what is the break-even level of income? (a) ₹266.67 (b) ₹400 (c) ₹800 (d) ₹1,000

Show the solution

At break-even, Y = C.
Y = 200 + 0.75Y.
0.25Y = 200.
Y = 200 ÷ 0.25 = 800.

Answer: (c) ₹800

Exam tips

Questions often give a table of Y, C and S. Fill the missing column using S = Y − C before anything else.
Expect direct statement MCQs: MPC lies between 0 and 1, APC can exceed 1 at low income, and saving can be negative.
Know the standard determinants: income for saving and consumption, and interest rate plus marginal efficiency of capital for investment.
Link this topic to the multiplier. The multiplier equals 1 ÷ MPS, so a correct MPS gives marks in the next topic too.

Practice questions from Determination of National Income

Consumption, Saving and Investment Functions: frequently asked questions

What is the difference between APC and MPC?

APC is total consumption divided by total income at one income level. MPC is the change in consumption divided by the change in income. APC describes a level, while MPC describes a response to a change.

How do I calculate MPC and MPS?

Find ΔY and ΔC between two income levels, then MPC = ΔC ÷ ΔY. Find MPS as 1 − MPC, or use ΔS ÷ ΔY if saving is given.

Why is MPC less than 1?

According to Keynes, people spend only part of any extra income and save the rest. So the rise in consumption is smaller than the rise in income.

What does the investment function show?

It shows how investment spending depends on factors such as the interest rate and the expected return on capital. A fall in interest rate or a rise in expected profits raises investment. In basic models, investment is treated as autonomous.