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Consumption and Saving

The Concept of Consumption


• Consumption is one of the major components
of the economy’s gross national product.
• Traditionally, consumption was an unimportant
element in economics as compared to
production and political economic issues.
• However, with the development of a consumer
society that resulted to an increased consumed
power in the market place, it was recognized
as a central activity to modern life.
The Concept of Consumption
• In economics, consumption refers to the using up
of resources. It is the money spent on goods and
services which yield satisfaction.
• In Keynesian economics, it is the “shorthand” for
personal consumption expenditure and it is
determined by the consumption function.
• But how do we relate it with saving?
• Actually, the idea is simple: the part of income
which is not consumed is saving. Expressed
mathematically,
The Concept of Consumption
• In economics, consumption refers to the using up
of resources. It is the money spent on goods and
services which yield satisfaction.
• In Keynesian economics, it is the “shorthand” for
personal consumption expenditure and it is
determined by the consumption function.
• But how do we relate it with saving?
• Actually, the idea is simple: the part of income
which is not consumed is saving. Expressed
mathematically,
The Consumption Function
• The consumption function tells us the
relationship between consumption level and
the level of household disposable income.
Determinants of Consumption
• Consumption has a directly proportional
relationship with income; that is, consumption
spending increases as income increases.
Consumption depends on other things aside
from income, and these are wealth, price level,
consumer’s expectation, and interest rate.
Determinants of Consumption
1. Wealth. It is the value of an asset owned, less the liabilities a
household owed. To increase wealth, one must augment saving or
pay off debt. Since an important reason for saving is to increase
one’s wealth, the larger the wealth, there is less incentive to save and
consumption will increase.
2. Price Level. A rising price level reduces the purchasing power of
households; therefore, savings will fall. As a result, households will
reduce their consumption and increase their savings.
3. Consumer’s Expectation. If a consumer expects that his income
will increase in the future, he will increase his consumption today.
An anticipation of an increase will encourage higher consumption
today as well.
4. Interest Rate. If interest rate falls, there will be less incentive for
savers to keep their money in securities. In response to this, savers
will just increase their consumption.
Determinants of Consumption
Marginal Propensity to Consume (MPC)
Marginal Propensity to Save (MPS)
Average Propensity to Consume (APC)
Average Propensity to Save (APS)
Determinants of Consumption
Determinants of Consumption
The Multiplier Effect
• The multiplier principle states that an increase
in autonomous spending will cause national
output to increase by a multiple of the initial
increase in spending.
Aggregate Consumption
Expenditure Model

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