2.2.2 Consumption

• Consumption

  Spending on consumer goods and services over a period of time
• Disposable income (Y)


  The money consumers have left to spend, after taxes have been taken away and any state benefits have been added
• Disposable income is affected by government taxation as well as wages
• Marginal propensity to consume (MPC)


  How much an increase in income affects consumption
• For most people, MPC will be positive but less than 1 i.e. an increase in income increases spending but spending doesn't increase by as much as income
• Some people will have an MPC of more than one as they use borrowing or savings to fulfil the demand for goods which is higher than their increase in income
• Poorer people tend to have a higher MPC as they are likely to spend much more of their increase in income whilst richer people are more likely to save it
• Average propensity to consume (APC)


  The average amount spent on consumption out of total income
• In an industrialised country, the APC for the economy is likely to be less than 1 as people save some of their earnings
• Savings


  What is not spent out of income
• An increase in consumption decreases savings so the same factors which affect consumption are those which affect savings- but in the opposite way
• Marginal propensity to save (MPS)


  How much of an increase in income is saved
• Average propensity to save (APS)


  The average amount saved out of income
• Interest rates


  Affect the cost of borrowing and the returns on savings
• If interest rates are high


  The price of the good will effectively be higher since more interest needs to be paid back and this will lead to a reduction in consumption
• High interest rates


  Increase mortgage repayments so reduce consumption
• A rise in interest rates


  Decreases the value of shares and so people experience a negative wealth effect
• Consumer confidence


  What people think will happen in the future
• If people are confident about the future and expect pay rises


  They will continue or increase their spending
• If they expect high levels of inflation in the future


  They will buy now as it will be at a cheaper price, so consumption will increase
• If they expect a recession and fear possible unemployment


  Consumption will decrease as people may save more
• If consumers expect tax to increase prices in the future

  They will buy now
• If consumers expect tax to reduce prices in the future


  They will delay their purchases
• If consumers expect interest rates to fall


  They may delay their purchases as things on credit will be cheaper
• Wealth effects


  A change in consumption following a change in wealth
• When real house prices rise


  Owners now have more wealth so are more confident with spending
• When share prices rise


  People may sell some of their shares and spend the money or may be more confident in spending the money they have
• Greater wealth will improve a consumer's confidence and thus lead to greater spending
• Distribution of income


  How money is distributed in the economy
• If money is moved from the rich to the poor


  Consumption is likely to increase as the poor have a higher MPC
• Tastes and attitudes

  Materialistic drive that encourages people to have the newest and the best
• If people were less materialistic, consumption would decrease
• Consumer spending

  How much consumers spend on goods and services
• Consumer spending is the largest component of AD and is therefore most significant to economic growth
• Consumer spending makes up just over 60% of GDP
• Disposable income


  The amount of income consumers have left over after taxes and social security charges have been removed
• Consumer income might come from wages, savings, pensions, benefits and investments, such as dividend payments
• Consumers on low incomes are more likely to spend
• A consumer's marginal propensity to save added to the marginal propensity to consume is equal to 1
• Consumer income which is not spent is saved