1. Module 16- Consumption, Income, and the Multiplier (PowerPoint 16A)- Consumption/Saving/Keynesian Expenditure Model
J.A.SACCO

2. Module 16- Consumption & Saving
You have two choices when you earn income--you can either consume it or save it. What you do not consume is, by definition, what you save.
Saving is important because investment is impossible without it. In the United States, the rate of personal saving has dropped significantly over the past several decades.

3. Did You Know That...
Personal consumption expenditures in the United States have averaged about two-thirds of gross domestic product for decades?
John Maynard Keynes focused much of his research on what determines how much you and I decide to spend

4. Module 16 GOALS Focus on what determines spending and saving
Concentrate on the relationship between a persons income and how much they spend (consume) and save
Analyze the relationship of consumption, investment, government expenditure, and net exports (GDP)
In other words, what causes the changes in GDP?
C+I+G+(X-M)

5. ? Why is this important to our study of macroeconomics?
Module 16 GOALS
Why is this important to our study of macroeconomics? ?

6. Some Simplifying Assumptions in the Keynesian Income Determination Model
Keynes Revisited
Equilibrium level of GDP is demand determined
Concentrated on elements of desired aggregate expenditures
Horizontal SRAS- Keynesian Range so inflation is not possible/no change in price level
Since PL is constant, any change in economic variables such as income, will be equal to a real change in terms in purchasing power
Hence-Examine Keynes ideas with inflexible prices

7. Definitions and Relationships
Definitions & Relationships Revisited
Consumption
Spending on new goods and services out of a household’s current income
Saving
The act of not consuming all of one’s income

8. Definitions and Relationships
Two things you can do with income:
Consume It!
Gone forever
Consumption goods (household purchases for immediate satisfaction—food, clothing, movies, etc…)
Save It!
Able to consume at a future time and perhaps more with interest

9. Definitions and Relationships
Consumption + Saving= Disposable Income OR
Saving= Disposable Income-Consumption

10. Definitions and Relationships
Dissaving- Negative saving. A situation where spending exceeds income.
Investment-The spending by business on things which can be used to produce goods and services in the future.
Stocks/Flows-A stock is a variable measured at a point in time. A flow is a variable measured over a period of time.

11. Stocks and Flows Which is a stock? Which is a flow? Saving Savings
Consumption
Investment

12. Stocks and Flows Saving- (FLOW)- particular rate-daily monthly, yearly
Savings- (STOCK)- certain point in time
saving+saving+saving=savings
Consumption-(Flow)- related to saving, consume at a certain rate
Investment-(Flow)- expenditures by firms on new machinery/equipment-yield future stream of income- “fixed investment”

13. Classical Economic View of Consumption and Saving
Saving is based on the interest rate!
Interest rate increases
Saving increase
Consumption decrease
Interest rate decreases
Saving decreases
Consumption increases

14. Determinants of Planned Consumption and Planned Saving
Keynes Says NO!!!
Interest rate not the key to what determines an individuals consumption and saving decisions.
Keynes argued that saving and consumption decisions depend primarily on an individual’s real current income.

15. Determinants of Planned Consumption and Planned Saving
Keynes was concerned with changes in AD.
If we can determine the reasons and tendencies
of consumption and saving, it might be possible to
determine the future macroeconomy.

16. Real Consumption and Saving Schedules: A Hypothetical Case
(1) (2) (3) (4) (5) (6) (7)
Planned Average Average
Real Planned Real Saving Propensity Propensity Marginal Marginal
Disposal Real Con- Per Year to Consume to Save Propensity Propensity
Income per sumption (S=Yd-C) (APC=C/Yd) (APS=S/Yd) to Consume to Save
Combination Year (Yd) per year (C) (1) - (2) (2)/(1) (3)/(1)
A $0
B 2,000
C 4,000
D 6,000
E 8,000
F 10,000
G 12,000
H 14,000
I 16,000
J 18,000
K 20,000
$2,000
3,600
5,200
6,800
8,400
10,000
11,600
13,200
14,800
16,400
18,000
$-2,000
-1,600
-1,200
-800
-400
400
800
1,200
1,600
2,000

17. The Consumption Function and the Keynesian Expenditure Model
20,000
What is the horizontal axis? What does it represent?
What is the vertical axis? What does it represent?
What is the consumption function?
What is the 45 degree line? What does it represent?
What is autonomous consumption? What does it represent?
What is disposable income, consumption, and savings at points
A, C, F, I?
What is the break-even point? What does it represent?
What happens to consumption and saving as real disposable income
increases?
16,000
12,000
Planned Real Consumption
(C, dollars per year)
8,000
4,000
2,000
4,000
8,000
12,000
16,000
20,000
Real Disposable Income (Yd dollars per year)

18. The Consumption Function and the Keynesian Expenditure Model
C=Yd
450
20,000
Consumption
function
Saving A B C D E F G H I J K
16,000
12,000
Break-even
income
Planned Real Consumption
(C, dollars per year)
8,000
4,000
Dissaving
2,000
Autonomous
consumption
4,000
8,000
12,000
16,000
20,000
Real Disposable Income (Yd dollars per year)

19. Determinants of Planned Consumption and Planned Saving
Causes of Shifts in the Consumption Function.
Non-income determinants of consumption.
Population- Increase consumption- function upward.
Expectations- Better times upward/worse times downward.
Wealth- Increase real household wealth upward/decrease downward.
Can you think of other non-income determinants of consumption?

20. Determinants of Planned Consumption and Planned Saving
Household Debt- Can increase consumption with borrowing or more debt. However as accumulate more debt, need to use more disposable income to pay off debt thus decreasing consumption.
Inflation- Inflation down/upward, inflation up/downward.
Taxes/Transfer Payments- more taxes C and S down/ less taxes C and S up. More transfer payments both C and S up, less C and S down.

21. The Consumption FunctionY2 C2 C1
Assume positive
economic expectations
Planned Real Consumption
(C, dollars per year) C1 Y1
Real Disposable Income (Yd dollars per year)

22. The Consumption Function
Planned Real Consumption
(C, dollars per year) C1 Y1 C2 Y2
Assume wealth
decreases
Real Disposable Income (Yd dollars per year) Y2

23. The Consumption and Saving Functions
Therefore an upward shift in consumption tells us that at all levels of disposable income, consumption is greater. If consumption is greater at all levels of disposable income, saving must be lower., and vice-versa. The only exception is taxes and transfer payments (both move in the same direction).