Consumption function

Consumption Function overview

1. Spending in the Economy The sectors that spend in the economy are: Consumers Business Firms Government International Sector

2. Spending in the Economy AD = C + I + G + Nx

3. Consumption Expenditure expenditure done by households on final goods and services Consumption is the largest component of AD Consumption spending is relatively stable

4. Durable Goods 3 Components of Consumption Spending Nondurable Goods Services Goods that last a long time Goods that are consumed very quickly Work performed for others

5. Consumption Function As we earn higher levels of income (Yd) our consumption increases C Yd C 45

6. 45 C C Yd Consumption Function E A B Equilibrium We consume all of our income Yd = C Yd > C Earning more than we spend C > Yd Spending more than we earn

7. C Yd C 45 C2 C3 Consumption increases at every level Consumption decreases at every level

8. Wealth Wealth includes those things you own such as your property holdings, stock portfolio, or any other asset that has value. Wealth is NOT your income An increase in wealth will increase your consumption A decrease in wealth will decrease your consumption

9. Expectations Expectations deal with expected future changes in income. If you expect your future income to increase you may increase your spending today If you expect your future income to decrease you may decrease your spending today. I get a job with Google that begins in three months. The job pays more than I now get. I will start increasing my consumption expenditures.

10. Debt Debt deals with how much you owe. If you have a large amount of debt you may decrease your spending If you have little or no debt you may increase your spending

11. Real Interest Rate The real interest rate deals with the interest you pay on purchases that have been financed – such as buying a large TV at Best Buy. If the real interest rate fall your consumption may increase If the real interest rate increases your consumption expenditures may fall.

12. Taxes Taxes deals with the taxes you pay on your income. If the taxes you pay falls your consumption expenditures will increase If the taxes you pay increases your consumption expenditures will decrease.