Transcript 1999 South-Western College Publishing

Principles of Economics
2nd edition
by Fred M Gottheil
PowerPoint Slides prepared by Ken Long
©1999 South-Western College Publishing
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Chapter 21
Consumption &
Investment
3/28/2016
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This chapter discusses
principles associated with
The
Keynes’
Modigliani’s
Marginal
Absolute
Propensity
Life-Cycle
Income
to
Duesenberry’s
Friedman’s
Permanent
Relative
Income
Income
TheAutonomous
Case for Income
Investment
Inequality
Hypothesis
Hypothesis
to
Consume
Save
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What determines
Consumption Spending?
Consumption is a
relationship between
consumption and income
C = F(Y)
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Who was
John Maynard Keynes?
Economist who had a
book published in 1936
named “The General
Theory of Employment,
Interest and Money”
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What did Keynes
say in his book?
The economy could tend
toward a less than full
employment equilibrium
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Why was this
thought different?
The Classical Economists
believed that the
economy is always
tending toward a full
employment equilibrium
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Who is correct, Keynes or
the Classical Economists?
Keynes is correct in the
short run, the Classical
Economists are correct
in the long run
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What is Keynes’ Absolute
Income Hypothesis?
As national income
increases, consumption
spending increases, but
by diminishing amounts
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What happens to the Marginal
Propensity to Consume as
income increases?
MPC decreases as income
increases and increases
as income decreases
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For more information
on income data:
http://www.census.gov/hhes/www/
income.html
http://www.bea.doc.gov/bea/dn/pit
bl.htm
http://www.bls.gov/eag.table.html
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What is MPC?
Change in consumption
brought about by a
change in income
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If household's income rises
from $12,000 to $12,700 and
consumption rises from
$13,000 to $13,500, then
MPC = $500 / $700 = .71
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Real Consumption
The Consumption Function
C
DC
D DI
Real Disposable Income
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Who was Simon Kuznets?
An economists who
published a book in 1941
named “National Income
and Its Composition”
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What did Kuznets
say in his book?
MPC tends to remain
fairly constant regardless
of the absolute level of
national income
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What is Duesenberry’s
Relative Income Hypothesis?
As national income
increases, consumption
spending increases as well,
always by the same amount
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What is
Permanent Income?
The regular income a person
expects to earn annually
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What is the Permanent
Income Hypothesis?
A person’s consumption
spending is related to his
or her permanent income
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Who is Milton Friedman?
An economists who won
the Nobel Prize in
Economics in 1976
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What is Friedman’s
contribution to Income
Hypothesis?
People distinguish between
their regular income and
income they expect to make
or lose in any one year
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Who is
Franco Modigliani?
An economists who won
the Nobel Prize in
Economics in 1985
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What is Modigliani’s
Life Cycle Hypothesis?
Typically, a person’s MPC
is relatively high during
young adulthood,
decreases during middle
age, and then increases
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What is
Autonomous Consumption?
Consumption spending
that is independent of
the level of income
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What is significant about
Autonomous Consumption?
Even when income is
zero, autonomous
spending is positive
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What can cause a shift in
the Consumption Function?
• Real assets & money holdings
• Expectations of price changes
• Credit & interest rates
• Taxation
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Real Consumption
1
C
C2
Real Disposable Income
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Will a change in Income
cause a shift in C?
No! When income changes
there is a movement along
a stationary Consumption
Function Curve
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Real Consumption
B
A
Consumption
Income Line
Real Disposable Income
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What is the
Consumption Equation?
C = a + bY
Income
Autonomous Consumption
MPC
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What is Saving?
That part of national
income not spent on
consumption
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What is the Marginal
Propensity to Save?
The change in saving induced
by a change in income
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MPC + MPS
… must equal
one whole
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Consumption, Saving
Consumption Function
Equilibrium
45o
National Income
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What is
Intended Investment?
Investment spending
that producers intend
to undertake
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What is
Autonomous Investment?
Investment that is
independent of the
level of income
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What determines
Autonomous Investment?
• Level of technology
• Interest rate
• Expectations of growth
• Rate of capacity utilization
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Consumption, Saving
45o
National Income
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What determines the
level of Investment?
The rate of interest
and expectations
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Why is Investment Volatile?
Because what can change
investors expectations is
unpredictable sometime
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• What determines Consumption?
• What is Keynes’ Absolute Income
Hypothesis?
• What is MPC?
• What happens to MPC as income
increases?
• What did Kuznets say in his book?
• What is Duesenberry’s Relative
Income Hypothesis?
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• What is the Permanent Income
Hypothesis?
• What is Friedman’s contribution to
Income Hypothesis?
• What is Modigliani’s Life Cycle
Hypothesis?
• What is Autonomous Consumption?
• What is Saving?
• What is the MPS?
• What is Autonomous Investment?
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END
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