Arrange the following as per the theory of the 'Paradox of Thrift':
(A) Marginal Propensity to consume decreases.
(B) Amount of savings decreases.
(C) People become more thrifty.
(D) Equilibrium level of income decreases.
Choose the correct answer from the options given below:
Answer & explanation
Correct answer: option 1
The correct answer is Option (1) → (C), (A), (D), (B)
People may all try to save a larger share of their income. By the paradox of thrift, total saving still does not rise.
(C) People become more thrifty. — The change starts here: people decide to save a larger share of their income.
(A) Marginal Propensity to consume decreases. — The marginal propensity to consume (MPC) is the share of extra income that is spent. More thrift means a lower MPC.
(D) Equilibrium level of income decreases. — Lower consumption cuts aggregate demand, the total planned spending in the economy. Producers reduce output, so income falls round after round.
(B) Amount of savings decreases. — With income so much lower, people end up saving less or the same as before.
NCERT (2026-27): “Paradox of Thrift If all the people of the economy increase the proportion of income they save (i.e. if the mps of the economy increases) the total value of savings in the economy will not increase – it will either decline or remain unchanged. This result is known as the Paradox of Thrift – which states that as people become more thrifty they end up saving less or same as before. This result, though sounds apparently impossible, is actually a simple application of the model we have learnt.… …Let us continue with the example. Suppose at the initial equilibrium of Y = 250, there is an exogenous or autonomous shift in peoples’ expenditure pattern – they suddenly become more thrifty. This may happen due to a new information regarding an imminent war or some other impending disaster, which makes people more circumspect and conservative about their expenditures. Hence the mps of the economy increases, or, alternatively, the mpc decreases from 0.8 to 0.5.… …But as aggregate demand decreases by 75, it falls short of the output Y*1 = 250 and there emerges an excess supply equal to 75 in the economy. Stocks are piling up in warehouses and producers decide to cut the value of production by 75 in the next round to restore equilibrium in the market. But that would mean a reduction in factor payments in the next round and hence a reduction in income by 75.… …But that means the new equilibrium output of the economy is only Y*2 = 100.…” |