Propensity to Consume

The Classical Economists Were Of The View That The Supply Of Savings Was Determined By The Rate Of Interest Prevailing In The Country According To Them The Higher The Rate Of Interest The Larger Is The Saving And So Less Is The Consumption Keynes Disagreed With The Above View According To Him Interest Is Not The Primary Determinant Of An Individuals Saving And Consumption Decisions It Is Primarily The Individuals Real Income Which Determines His Saving And Consumption Decisions J. M. Keynes Has Developed Two Concepts (I) Average Propensity To Consume And (Ii) Marginal Propensity To Consume To Analyze The Consumption Function These Two Concepts Are Now Explained In Brief.
(i) Concept of Average Propensity to Consume
Average Propensity To Consume (Apc) May Be Defined As The Ratio Of Total Consumption To Total Disposable Income It Is Calculated By Dividing The Amount Of Consumption By Disposable Income For Any Given Level Of Income For Instance When Nations Disposable Income Is Rs 2000 Billion Consumption Expenditure Is Rs 1500 Billion The Average Propensity To Consume Is 1500/2000 = 0 75 This Shows That Out Of The Disposable Income Of Rs 2 000 Billion 75% Will Be Used For Consumption Purposes The Apc Declines As Income Increases Because The Proportion Of Income Spent On Consumption Decreases The Average Propensity To Consume At Any Level Of Income Is Expressed In Equation As C/Y Here C Stands For Consumption Y For Income.
Symbolically; APC = v

 

In The Fig (30 2) Income Is Plotted On Ox Axis And Consumption Along Oy Cc Curve Represents The Propensity To Consume Schedule At Point K The Average Propensity To
Consume is equal to 62
Kl _ (c2500                              25
-        ^i.e.‘ 4000 or .₄₀ = 62
Apc Implies A Point On The Curve C Which Indicates The Ratio Of Total Consumption To Total Income The C Curve Is Made Up Of A Series Of Such Points.
(ii) Marginal Propensity to Consume _.(MPC)
The Concept Of Marginal Propensity To Consume Is Very Important Is Macro Economics J M Keynes Has Defined Marginal Propensity To Consume (Mpc) As The Relationship Between A Change In Consumption (Ac) That Resulted From A Change In Disposable Income (Ay) It Is Found Out By dividing change in consumption to a given
Change In Disposable Income. Thus
Change in consumption       Ac
.MPC -           Change in income .       Ay
We Make This Concept Clear By Taking An Example Let Us Suppose The Disposable National Income Rises From Rs 2 000 Billion To Rs. 3,000 Billion (By Rs. 1,000 Billion) And The Consumption Expenditure Increases From Rs. 1500 Billion To Rs 2000 Billion (By Rs. 500
Billion) The Marginal Propensity To Consume Is
Ac         500           1
MPC -         -
Ay         1000 – 2 -
All The Three Concepts Of Consumption Function Are Now Explained With Help Schedule And A Diagram.

Consumption Schedule

National Disposal income Y	Consumption Expenditure	Average Propensity to consume (APC) = C/y	Marginal Propensity to, consume (MPC) = Ac/Ay
A 1,000	1,100	1100/1000 = 1.1	900/1000 = .9
B 2,000	2,000	2000/2000 = 1.0	600/1000 = 6
C 3,000	2,600	2600/3000= • .86	500/1000 = .5
D 4,000	3,100	3100/4000 = .77	300/1000 = 3
E 5,000	3,400	3400/5000 = .68	200/1000 = 2
F 6,000	3,600	3600/6000 = .6	100/1000 = 1
G 7,000	3,700     ,	3700/7000 = .53

The Reader Can Easily Understand From The Above Schedule That With The Increase In The Disposable Income The Propensity To Consume And The Marginal Propensity To Consume Decreases And Conversely With A Fall In Income The Propensity To Consume And The Marginal Propensity To Consume Increases The Consumption Schedule Can Also Be Explained With The Help Of A Curve Which Is Given Below:-

In The Figure (30.3) Disposable Income Is
Measured Along The Horizontal Axis Ox And
Consumption Along The Vertical Axis Oy Let Us Now Draw A 45° Helping Line From 0 To On
The Curve Ag Represents The Income Consumption Schedule Indicating The Propensity To Consumer At Various Levels Of Income Point A Which Is Above 45° Helping Line Shows Us That The Expenditure Is Greater Than Its Income This Deficit In Income Can Be Converted Either By Borrowing Or From The Sale Of Assets At Point B Consumption Expenditure Is Exactly Equal To Disposable Income And There Is Neither Saving Nor Dis-Saving This Point Is Known As Break Even Point From B Onward Upto G The Curve Lies Below The 45° Helping Line This Shows That The Consumption Expenditure Is Less Than The Disposable Income Net Saving Is Measured By The Distance From The Propensity To Consume Curve Upto 45° Helping Line For Example When The Income In Rs 5,000 Billion, The Expenditure Is Rs. 3400 Billion And Saving Rs. 1,600 Billion. •
Marginal Propensity To Consume Curve Can Also Be Illustrated From The Very Same Figure. At point B, income is Rs. 2,000 Billion And Is Equal To Expenditure, i.e., Rs. 2,000 Billion. When income increases from Rs. 2,000 billion to Rs. 3,000 billion, consumption increases only by Rs. 600 billion. Now we move from point B towards right up by Rs. 1,000 ^-billion. BM line shows us the increase in income. Then we go vertically until we reach point K. MK line indicates addition ‘made to the total consumption. It is equal to Rs. 600 billion. So the marginal propensity to consume will be equal to Rs. 600/1000 = .6.

Determinants Or The Level Or National Income And Employment Tools of Modem Employment Theory

Tools of Modem Employment Theory

Before We Discuss The Determination Of National Income And Employment It Seems Necessary That The Various Tools Or Determinants Of Level Of National Income And Employment Are Explained To The Readers These Tools Are Consumption Saving And Investment Let Us Begin With The Concept Of Consumption Function.

(1). PSYCHOLOGICAL LAW OF CONSUMPTION

J.M. Keynes In His Book General Theory Analysed The Consumption Behaviour Of The Community On The Basis Of Human Psychology He Propounded A Law Which Is Known As Psychological Law Of Consumption According To This Law The Household Sector Spends A Major Part Of Its Income On The Purchase Of Consumer Goods And Services Such As Food Clothingmedicines Shelter Etc For Personal Satisfaction The Expenditure On Consumption (C) Is The Largest Component Of Aggregate Expenditure Whatever Is Not Consumed Out Of Disposable Income Is By Definition Called Saving (S) Disposable Income = Consumption +Saving Or I = C + S.

According to Keynes The Level Of Consumption In A Community Depends Upon The Level Of Disposable Income As Income Of A Nation Increases Its Consumption Also Increases But It Increases Not As Fast As Income I E It Increases At A Diminishing Rate This Relationship Between Consumption And National Disposable Income Is Called Consumption Function In The Words Of Keynes Men Are Disposed As A Rule And On The Average To Increase Their Consumption As Their Income Increases But Not By As Much As The Increase In Their Income The Psychological Law Of Consumption Brings Out The Following Properties Of The Consumption Behaviour Of The Community.

(1)    The Level Of Consumption Is Directly Functionally Related To The Level Of Disposable Income = C = f(y)

(2)    With The Rise In The Level Of Income The Consumption Level Also Rises In The Short Run But At A Decreasing Rate = AC < AY.

(3)    As The Level Of Income Increase The Households Devote A Part Of The Incremental Income To Increase In Consumption And The Other Part To Increase Savings Symbolically AY = AC + AS.

The Keynesian Consumption Function Is Now Explained With The Help Of Schedule And A Curve.

(Rs. billion)

Disposable income (Y)	Consumption (C)	Saving (S)	APC. CN	MPC. AC/AY
0	.             50	-50
100	100	0	1.00	0.5
200	150	50	0.75	0.5
300	200	100	0.67.	0.5

In The Schedule It Is Shown That As The Nations Disposable Income Increases The Aggregate Consumption At Various Levels Of Income Also Increases But At A Decreasing Rate The Same Data Is Now Shown In The Graph 30.1 Below

National Disposable Income (billion of Rs)
Following Are The Observations About The Functional Relationship Between The National Disposable Income And The Economy’s Aggregate Expenditure.
(1)  At Every Point On The 45^° Line Oy A Vertical Line Drawn To The Income Axis Is At The Same Distance From The Origin As A Horizontal Line Drawn To The Consumption Axis The 45° Line Thus Is The Line Along Which Expenditure Equals Real Income.
(2)  The Consumption Function Is Represented By Consumption Line (C) The Consumption Line C Is Positively Sloped Indicating That As The Disposable Income Increases The Amount Of Expenditure In The Economy Also Increases.
(3)  The Consumption Line (C) Intercepts At Y Axis Showing Negative Saving Of Rs. 50 Billion During A Short Period.
(4)  At Point B The Consumption Line (C) Intersects The 45^° Helping Line (Oy) At Point B Consumption Equals Disposable Income And There Is Zero Saving B Is Called The Break Even Point.
(5)  Left To The Point B The Consumption Line C Is Above The Income Line Y It Indicates Negative Saving.
(6)  Right To The Point B The Consumption Line C Is Below The Income Line Y It Denotes Positive Savings.
Summing Up Consumption Is A Function Of Income C = F (Y) Consumption Function Is The Whole Schedule Which Describes The Amounts Of Households Consumption And Different Levels Of Disposable Income Importance Of Consumption Function
The Concept Of Consumption Function Occupies An Important Place In Macro Economic Theory. Its Role Is Significant In The Following Ways.
(1)    Consumption Is An Important Component Of Aggregate Demand According To Keynes Consumption Function When The Level Of Income Of A Nation Increases The Amount Of Consumption Also Increases But The Increase In Consumption Is Less Than The Increase In Income Of The Society Hence Saving Gap Emerges Between Income And Consumption Resulting In Deficiency Of Aggregate Demand Which Causes Overproduction And Unemployment In The Economy.
(2)       J. M. Keynes Concepts Of Consumption Function Helps In Explaining The Turning Points Of Business Cycles Both Peak And Recession.
(3) According To Keynes The Change In Consumption Divided By Change In Income (Mpc) Is Less Than One He Based The Theory Of Investmentmultiplier On The Concept Of Marginal Propensity To Consume (Mpc = (Ac Tc^-₁)) The Concept Of Investment Multiplier Occupies An Important Place In Macro Economic Theory.
(4) The Concept Of Consumption Function States The Positive Relationship Between The Level Of Disposable Income In The Economy And The Amount Spent On Consumption This Relationship Between Income And Consumption Is Stable In The Short Run The Private Investment On The Other Hand Fluctuates Greatly In The Economy It Throws Light On The Role Of Government In Promoting Employment And Price Stability By Adopting Proper Fiscal Measures.