Consumption Function

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Consumption Function

Consumption expenditure is, to a large extent, dependent on real disposable income Real income means nominal money income adjusted for changes in price level. Disposable income is that part of total income which is available to the people for spending. Clearly some part of the income, which may accrue to person, may not be actually available to him for spending the way he likes. Income tax deduction, Provident fund contribution, etc., are some such deductions. But if we make the simplifying assumption that there is o government or that the government levies no taxes, then total disposable income of the household will be the same as its personal or family income.

Like the household or the family, aggregate consumption expenditure of the whole economy, by and large depends upon the level of its real income. At higher levels of income, the consumption expenditure is likely to be greater than that at lower levels of income this relationship between the consumption expenditure and the level of income, is called the propensity of propensity to consume or consumption function. Since, the consumption expenditure depends upon the level of income, we can say that consumption is a function of income or

C = f(Y)

Where C is consumption expenditure. Y is the level of real income and f denotes functional relationship between C and Y. A rise in real income will lead to greater expenditure on consumer goods and a fall in income will reduce it.

Hence, this relationship between consumption expenditure and income is called consumption function. From a given consumption function, we can find out the amount of consumption expenditure at any given level of income.

The term "consumption function" describes the relationship between private consumption and the variables that influence it. In simplest theory, consumption is determined by the current personal disposable income.


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