Question

What is Consumption function in brief? Explain a relationship
between consumption and savings.​

Answer 1

Answer:

The consumption function is a relationship between current disposable income and current consumption. It is intended as a simple description of household behavior that captures the idea of consumption smoothing. Households consume something even if their income is zero.

Answer 2

Answer:

Consumption function refers to the standard equation of consumption which defines the relationship between consumption and income where consumption value can be derived at each level with the use of income value.  

C= c+ bY where c=autonomous consumption, b= marginal propensity to consume, and Y= income.

The autonomous consumption is 60 crores and MPC= 0.6.  

Now, derive the consumption from different levels of income.

Consumption

The main hypothesis of Keynes suggested that our disposable income which can be arrived at by deducing tax liabilities from gross income influences our level of real consumption. Further explanation on this is

C = f (Y) where C stands for consumption and Y stands for disposable income.

Keynes also held the view that people tend to enhance their consumption level along with a rise in their disposable income.

However, the increase in disposable income is greater than the increase in consumption. This hypothesis can be termed as our marginal propensity to consume and indicates a positive correlation between these two variables.

This, if our income increases by one unit, our marginal propensity to consume increases by 0.8 units. Hence the remaining 0.2 units are used for savings.

Y = C + S where Y stands for disposable income, C stands for consumption and S stands for savings.

It is also imperative to note here that propensity to consume and desire to consume are not similar in nature as the former means effective consumption.

Both objective and subjective factors influence our consumption function. Tax policy, interest rate, windfall profit or loss and holding of assets are some objective functions whereas subjective ones relate to motives of foresight, precaution, avarice, and improvement amongst individuals.

savings

In plain words, savings refer to the excess of disposable income over consumption expenditure.

From a national level, the unconsumed part of the entire nation’s income comprising of all its members can be termed as National Savings.

Total domestic savings, on the other hand, can be defined as the summation of savings of the government, the business sector, and households.

Some of the biggest determinants of savings are

• Income, as saving income ratio holds a proportionate relation with the rise in income. People also have a tendency of saving the excess part of their income but not the entire bulk.
• Distribution of income as the savings process is helped to a great extent by inequality of income distribution. Our desire to showcase a superior standard of living in comparison to our neighbors often steers us towards purchasing expensive goods which in turn declines the level of savings.
• Psychological or subjective factors such as savings to safeguard ourselves from future insecurity and uncertainty. The ultimate attitude of people is driven towards savings by their farsightedness. This, in turn, boosts them up to enjoy a better standard of living both for themselves and their loved ones.
• Prevalent financial instruments and rate of interest as a higher rate motivates greater savings.