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State and explain the Determinants of Consumption.

Answers

1. Rate of Interest:
According to classical economists, individuals will save more and spend less as interest rate increases.

2. Relative Prices:
This influences consumption behaviour with consumers shifting to relatively cheaper goods.

3. Capital gains:
According to Keynes, windfall gains/losses will influence consumption. Keynes argued that consumption of wealth owners can be influenced by sudden changes in the money value of their wealth. Sudden changes are common where the stock exchange market is composed of speculators.

4. Wealth:
High stocks of wealth lead to low marginal value of wealth and hence less desire to accumulate more. As a result, this leads to increased consumption.

5. Money stock (Liquid assets):
The higher the stock of liquid assets the higher the marginal propensity to consume.

6. Availability of consumer credit:
Readily available and/or cheap consumer credit leads to consumers borrowing for consumption purposes. This pushes up the aggregate consumption function.

7. Attitudes and Expectations of Consumers:
Both change in consumer attitudes and expectations affect their consumption behaviour. If for instance, consumers expect a price increase of a certain good, they may increase their current purchase of the same good.

8. Money Illusion:
Consumption will go up when consumers suffer from money illusion. Money illusion occurs when consumers fail to realize the price increase accompanying the increase in their nominal income, thereby behaving as though their real income has increased when it has not. Money illusion is also called Pigou or real cash balance effect.

9. Distribution of Income:
Redistribution of income may cause a shift in the aggregate consumption function, or lead to both a shift to a change in the slope of the function. It therefore affects the level of aggregate consumption, if the recipients have different marginal propensity to consume and average propensity to consume.

10. Composition of Population:
Population composition in terms of age, sex and class determines consumption.

Kavungya answered the question on August 10, 2021 at 06:48

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State and explain the Determinants of Consumption.

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