Thursday, August 27, 2009
Subjective and Objective Factors Affecting Consumption
When we say that propensity to consume is stable, it does not mean the consumption expenditure remains constant. Consumption expenditure does no doubt vary as income varies. But consumption changes according to a set pattern. The amount of consumption changes as income changes, but the schedule remains the same. This is what we mean by saying that propensity to consume remains stable. But there are certain factors which do bring about a change even in this propensity to consume in the long run. These factors are of two types which are discussed below.
Such factors are concerned with one’s own psychology. As a result there may be more saving or more consumption etc. They are as:
1. Motive of Foresight: The society where people have greater regarding their expected expenditures like education and marriage of children etc, the level of savings will be higher.
2. Motive of Unforeseen Needs: The society where people anticipate about their unforeseen and unexpected needs like disease, accidents and unemployment, the level of saving will be higher.
3. Motive of Improvement: The society where people wish to improve their living standard as to have more luxuries like automobiles and electrical appliances the saving proportion will be higher discouraging consumption.
4. Motive of Calculation: The society where people are desirous to earn interest they will make greater savings. Hence consumption will be lower.
5. Motive of Business: The society where people are desirous to improve their business they will make savings reducing their consumption.
6. Motive of Pride: The society where people wish to enjoy pride after their death among their heirs they will make greater savings. As a result the savings will rise and consumption will fall.
7. Motive of Miserliness: The society where the number of miser is more, savings will be more and consumption will be less.
8. Ostentation: The society where people believe in ostentation and demonstration in the level of consumption will be higher and savings will be lower.
9. Generosity: The society where people are more generous and extravagant they will make more consumption. Hence consumption will be higher.
10. Rejoicy: The society where people believe in rejoicing i.e. drinking and eating etc they will diver major share of their income to consumption accordingly, consumption will be higher and savings will be lower.
They consist of those factors which are not concerned with person, rather they are linked with the society or economy whenever they change they may influence consumption or savings. They are listed below.
1. Distribution of Income: A part from the size of national income, consumption behaviour of the economy will also be influenced by pattern of income distribution. It will be generally observed that the average and marginal propensities to consume of the poor people are greater than those of the rich. If for example, you give an additional 10 rupee note to a poor man, the assumption is that of this additional income, he will spend a greater proportion than will be the case if the same amount were given to a rich man. This is because the poor man has a lot of unsatisfied wants and he is likely to seize every opportunity that comes his way to satisfy them. On the other hand, the rich have already a high standard of living and relatively less urgent want remain to be satisfied so that in their case an addition to their incomes is more likely to be saved than spent on consumption.
Consumption is the typically the function of poor and saving typically the function of rich. Therefore, given the national income, a more equal distribution of incomes will make for higher marginal propensity to consume and therefore will raise the value of multiplier.
2. Fiscal Policy: Fiscal policy of the government will also influence the consumption behaviour of an economy. A reduction is taxation will leave more post-tax incomes with people and this will stimulate higher expenditure on consumption; an increase in taxes will depress consumption of the two types of taxes i.e. direct tax and indirect tax, the latter will have more immediate effect on consumption than the former particularly when direct taxes are progressive in their incidence. Commodity taxes penalise consumer expenditure directly by raising the prices of commodities while taxes on income reduce commonly indirectly, by reducing the post tax income of the individual.
Hence structure of fiscal system has an important influence on the consumption behaviour of the economy, changes in the fiscal policy are liable to bring abut shift in the consumption income curve. Modern trends towards welfare state financed by progressive taxation tend to shift upward the consumption function.
3. Substantial changes in Rate of Interest: The rate of interest influences the savings as well as consumption decisions of people. When a person saves he has to forego the current consumption. A person will do so if he gets something in form of interest so that with such interest income he could have consumption in future. A consumer will go on preferring future consumption over present consumption as long as MU of future consumption is greater or least equal to MU of present consumption. It means that savings of a consumer depend upon rate of interest and savings. Greater the rate of interest more will be savings, because in such situations, the consumer will prefer future consumption over present consumption. As a result saving curve rises upward.
4. Price Expectations: If at any time the level of consumer goods prices goes on to increase, but the incomes of the people are not increasing, the consumer will have to allocate greater share of their current income on consumer goods. It so happens that consumer expects that in future rise in prices will be more. On the other hand if the prices are falling the consumers anticipate that in future prices will fall more than present one. All this shows that changes in real consumption did not occur due to present prices, rather due to expected changes in prices. While due to business pessimism the consumption expenditure will fall. Thus all those so as economic changes which affect consumer’s expectations particularly regarding prices will affect real consumption expenditure.
5. Wind fall Gains and Losses: The wind fall losses and gains out of changes in capital values affect the saving bracket mostly and not the spending sections. Hence their influence on consumption function is not so well marked.
6. Liquidity Preference: If people prefer to keep their income in liquid form consumption is reduced correspondingly.
All the above mentioned factors will affect the consumption function in one direction or other. However all of them are relatively unchanging in the normal short run and therefore cannot explain changes in total consumption during a short run period. Income is the only variable which will change considerably in the short run and affect consumption. Thus it may be assumed that consumption varies only with level of income. Or in other words, the aggregate real income is the ultimate independent variable influencing the propensity to consume.Keynes concludes that in these words “Most period changes in consumption largely depend on changes in the state at which real income is being earned and not on changes in propensity to consume but of given income. Tags: Macro Economics
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