It is very essential to study and understand the Income and Employment Theories

to have a better knowledge on the relationship between production, employment,

and prices in a given economy.

In 1936, a key behavioral relationship in macroeconomics called the "consumption

function" was introduced by John Maynard Keynes. His analysis has become

synonymous with a simplistic version of the consumption function that embodies

only the more quantitative aspects of his considerations, popularly known as the

"Absolute Income Theory", despite the fact that he did not provide a precise

functional formulation of the tendency to consume. His statement in the relationship

between income and consumption was based on the "fundamental psychological

law". According to which, as income increases consumption increases but not by as

much as the increase in income. In other words, marginal propensity to consume is

less than one. The theory concerns how a consumer divides his disposable income

between consumption and saving.

On the other hand, in 1949, James Duesenberry formulated the "Relative Income

Theory" which has a lot of empirical support as well as a lot of implications.

According to the said hypothesis, an individual's attitude toward consumption and

saving is influenced more by his relative income than by his abstract standard of

living.

Further, in 1957, Nobel Prize Winning Economist, Milton Friedman attempt to

merge three sets of data that seem to be incompatible. These are the cross-

sectional data or budget studies data, cyclical or short run time-series data and

Kuznets’ long run time-series data. The basic relationship between consumption and

income, according to Friedman's hypothesis, is proportional. Thus, called the

"Permanent Income Theory". According to Friedman, consumption depends on

permanent income, based on expected future income.

The theories mentioned above has greatly affected the economy worldwide. The

application may vary from time to time yet it is so important to learn from these
hypothesis.