AD + Consumer Spending

• Consumption is the total spending by households on goods and services in the economy.
• Consumption is a massively important part of aggregate demand in the UK, accounting for around 66 percent of aggregate demand in the USA.
• The equation for aggregate demand is C + I + G + X - M.
• Consumption can increase or decrease for reasons independent of the price level.
• The level of real disposable income, adjusted for inflation, can influence consumption.
• Disposable income is income left after taxes and national insurance have been paid.
• One reason why disposable income can increase is if income taxes are cut in the economy, which can increase the level of real disposable income and the marginal propensity to consume, increasing the level of consumption in the economy.
• Job prospects and the level of unemployment in the economy can affect consumer confidence as individuals are more likely to spend money if they expect to get promoted or if unemployment is low.
• The level of household indebtedness can affect consumption as individuals are more likely to save money if they are living in large debts.
• The availability of credit can affect consumption as lower interest rates can encourage borrowing, but if the availability of credit is low, it can reduce the impact of lower interest rates.
• Variable rate mortgages or track rate mortgages mean that monthly payments can vary, increasing disposable income and increasing consumption in the economy.
• In countries like the UK, there is a strong correlation between asset prices like house prices and share prices and the level of consumer spending in the economy.
• Asset prices, such as house prices and share prices, can affect consumption as wealthier individuals are more likely to spend money.
• Consumer confidence can affect consumption as higher consumer confidence leads to a higher marginal propensity to consume.
• If interest rates are cut, the cost of borrowing falls and the rate of return on saving falls, increasing the incentive for consumers to borrow money and spend it on expensive items like cars, houses, furniture, and jewelry, increasing consumption in the economy.
• If interest rates are cut, the rate of return on saving decreases, reducing the incentive to save and potentially increasing consumption as a result.
• Many households in the UK have mortgages, which can be used to finance buying a house, and monthly mortgage repayments have to be made.
• Many mortgages in the UK are variable rate mortgages or tracker rate mortgages, where the level of repayments is attracted to the base rate in the economy, the central bank interest rate.
• If interest rates are cut, monthly repayments could fall for households who have variable rate mortgages.