
In
economics
Economics () is a behavioral science that studies the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods and services.
Economics focuses on the behaviour and interac ...
, the consumption function describes a relationship between
consumption and
disposable income. The concept is believed to have been introduced into
macroeconomics
Macroeconomics is a branch of economics that deals with the performance, structure, behavior, and decision-making of an economy as a whole. This includes regional, national, and global economies. Macroeconomists study topics such as output (econ ...
by
John Maynard Keynes
John Maynard Keynes, 1st Baron Keynes ( ; 5 June 1883 – 21 April 1946), was an English economist and philosopher whose ideas fundamentally changed the theory and practice of macroeconomics and the economic policies of governments. Originall ...
in 1936, who used it to develop the notion of a
government spending multiplier.
Details
Its simplest form is the ''linear consumption function'' used frequently in simple
Keynesian models:
:
where
is the
autonomous consumption that is independent of disposable income; in other words, consumption when disposable income is zero. The term
is the
induced consumption that is influenced by the economy's income level
. The parameter
is known as the
marginal propensity to consume, i.e. the increase in consumption due to an incremental increase in disposable income, since
. Geometrically,
is the
slope
In mathematics, the slope or gradient of a Line (mathematics), line is a number that describes the direction (geometry), direction of the line on a plane (geometry), plane. Often denoted by the letter ''m'', slope is calculated as the ratio of t ...
of the consumption function.
Keynes proposed this model to fit three
stylized facts:
* People typically spend a part, but not all of their income on consumption, and they save the rest. They typically do not borrow money to spend, or borrow money to save.
This fact is modelled by requiring
.
* People with higher income save a higher proportion of the income. This is modelled by
decreasing with
.
* People, when deciding how much to save, are insensitive to the interest rate.
By basing his model in how typical households decide how much to save and spend, Keynes was informally using a
microfoundation approach to the macroeconomics of saving.
Keynes also took note of the tendency for the marginal propensity to consume to decrease as income increases, i.e.
. If this assumption is to be used, it would result in a nonlinear consumption function with a diminishing slope. Further theories on the shape of the consumption function include
James Duesenberry's (1949) relative consumption expenditure,
Franco Modigliani and Richard Brumberg's (1954)
life-cycle hypothesis, and
Milton Friedman
Milton Friedman (; July 31, 1912 – November 16, 2006) was an American economist and statistician who received the 1976 Nobel Memorial Prize in Economic Sciences for his research on consumption analysis, monetary history and theory and ...
's (1957)
permanent income hypothesis
The permanent income hypothesis (PIH) is a model in the field of economics to explain the consumption function, formation of consumption patterns. It suggests consumption patterns are formed from future expectations and consumption smoothing. The ...
.
Some new theoretical works following Duesenberry's and based in behavioral economics suggest that a number of behavioural principles can be taken as microeconomic foundations for a behaviorally-based aggregate consumption function.
See also
*
Aggregate demand
In economics, aggregate demand (AD) or domestic final demand (DFD) is the total demand for final goods and services in an economy at a given time. It is often called effective demand, though at other times this term is distinguished. This is the ...
*
Absolute income hypothesis
*
Life cycle hypothesis
*
Measures of national income and output
*
Permanent income hypothesis
The permanent income hypothesis (PIH) is a model in the field of economics to explain the consumption function, formation of consumption patterns. It suggests consumption patterns are formed from future expectations and consumption smoothing. The ...
Notes
Further reading
* ''(Undergraduate level discussion of the subject.)''
* ''(Graduate level discussion of the subject.)''
External links
An essay examining the strengths and weaknesses of Keynes's theory of consumption
{{Authority control
Consumption (macroeconomics)