CONSUMPTION

&
SAVINGS
Economic Income
• Which is earned through economic
activities.
National Income – Reflected in the value of
production.
NI = GNP
Personal Economic Income – which the
firms pay to the households in exchange for
factor contributions.
 BASIC
CONCEPTS OF
CONSUMPTION
Consumption
It is the act of using goods and services to satisfy human
wants. In a broad sense, it is not the monopoly of households
since businesses and the government also use goods and services
to attain some ends.

Household Consumption Business Consumption

• Directly satisfies human wants • Indirectly inasmuch as business

activities provide the households
with economic income to meet
consumption expenditures as
periodic payments for society’s
current consumption of social
goods.

Expenditures on Capital Goods – serves as pre-payments of long-run

consumption since durables are gradually consumed and repeatedly used
over a long period.
 THE
CONSUMPTION
FUNCTION
Consumption & Income
• National or Factor Income – its
determinant is Personal or Household
Consumption.
Y+C Initially, the economy dissaves
by borrowing from its stock of
Where: savings to meet current
Y Factor Income consumption needs in the absence
of income. In realistic terms, this
Borrowings from the can mean that poor families spend
economy’s stock of more than what they earn by
savings borrowing from the rest of society
which results in aggregate
C = Change in consumption that exceeds
Consumption aggregate income.
The Multiplier Concept
• Multiplier – It is the process of generating income through the
circular flow exchange between the households and the firms.
a) Marginal Propensity to Consume (MPC) – Consumption
Factor
b) Marginal Propensity to Save (MPS) – Savings Factors
• Multiplier Coefficient
 It measures the average number of times every peso of inflow
circulates and change hands in the system as income.
 It measures the income generated from every peso of inflow
which when multiplied to the total inflow yields aggregate
income.
 It depends on the fraction of every additional income
generated in the exchange that flows out of the system as
savings.
The Following Equations
Illustrate:
Y= S=i
M= = I=Y–C
MPS + MPC = 1 Y=i+C
M=
Where:
M = Multiplier Coefficient Where:
(MPC) = Marginal Propensity to S = Aggregate savings from
Consume currently generated income
MPS = 1 – (MPC) = Marginal i = Inflow
Propensity to Save
Consumption and Savings

Dissavings/Net Borrowings
Income < Consumption

Net Savings
Income > Consumption
Factors of Consumption
Taste or Preference
A. It depends on how the product satisfies one’s desires.
B. A change in collective attitude can change aggregate taste or
preference, consumption, and marginal propensity to consume.
C. Reasons:
a) Duesenberry’s Relative Income Hypothesis – the difference in
consumption behavior could be explained by the difference in
income level relative to what one is accustomed to.
b) It may vary across different racial, ethnic, age, and occupational
groups.
c) Common Mentalities:
1) Gaya – gaya System – One’s consumption is influenced by the
demonstration of others.
2) Colonial Mentality – there is a standing bias for goods marked
“imported” which is also associated to economic status.
 Factors of Consumption
Population Size – An increase in household size with
income and other factors as constant may decrease the
propensity to consume and increase savings at the expense
of non-essential items in the consumption basket.
Income – Income re-distributed in favor of those with
higher propensity to consume increases the level of
aggregate consumption assuming other factors as constant.
Price Level – Individual product demand is inversely
proportional to price due to the change in purchasing power
and substitution with other products.
Innovation and Promotion – They can expand the line of
consumers’ choice and extend the influence of demand
factors on consumption and propensity to consume income.
Engel’s Law and the
Compositional Change in
Consumption Expenditure
Ernest Engel – A German economist in the 19th century who found a
relation between the level of family income and the composition of its
consumption spending.
The Engel’s Law implies that changing the relative importance of
items in the consumption basket depends on how consumers spend
additional income. Spending more of additional income for higher needs
like education increases their share in total consumption and income at
the expense of essential items like food which follows the opposite trend.
Where:
= Consumption of non-
and
essential items
= Consumption of
At the expense of: essential items
C = Consumption of all
items
y = Income
= Change