Keynes’ Consumption

Function
Consumption is an important component
of National Income
Consumption function shows the total
expenditure which ceteris paribus,
consumers will make on the purchase of
different goods and services at different
levels of income
Keynes calls it as ‘propensity to consume’
It is the functional relationship between
income and consumption
Income is the main determinant of
Keynes’ Consumption
Function
Real consumption is a fairly stable function of real
income
There will be an increase in consumption as
income increases, but not as much as the
increase in their income
C = a + bY where, C = Consumption, a =
autonomous consumption, Y is income and b is
slope of the consumption curve or Marginal
Propensity to Consume (MPC)
Change in Consumption
MPC = ------------------------------------
Change in Income
Keynes’ Consumption
Function
According to him a rise in income will be
accompanied by rise in savings. The
habitual standard of living has the first
claim on income.
The difference between his actual income
and the expense of his habitual standard of
living is saving.
Average Propensity to Consume (C / Y)
decreases as income increases both in the
short as well as in the long run
0 < MPC < 1
Short run MPC < Long run MPC
 Short Run Consumption Function: 1970-80
y = 0.9557x + 3647.2
2
140000 R = 0.9978
120000
100000
80000
Consumption

60000
40000
20000
0
0 50000 100000 150000
Income
 Long Run Consumption Curve
y = 0.7285x + 39783
3000000 2
R = 0.9989

2000000
Consumpti on

1000000

0
0 1000000 2000000 3000000 4000000
Income
 Average Propensity to Consume
y = -1E-07x + 0.9667
1.5 2
R = 0.7655
1
APC

0.5

0
0 500000 1E+06 2E+06 2E+06 3E+06 3E+06 4E+06
Income
Empirical Evidence
The empirical evidence shows the
applicability of Keynes consumption function
in the case of India for both short as well as
long run
MPC is less than 1 in both the periods
APC declines as income increases
But only exception is that short run MPC>
long run MPC
Alternative Hypotheses
Duesenberry – Consumption income ratio
depends on the current income to the peak
income previously attained.
C = a + byt + byt-1
C= 41158.87 + 0.733yt– 0.006yt-1
(6.74) (-0.05)
Brown argues that C/Y is not necessarily
constant because consumption depends on
habit persistence among the consumers.
Alternative Hypotheses
He concludes that previous consumption
rather than previous income as a lagged
variable in consumption function
C= 25494 + 0.405Yt + 0.488Ct-1
 (5.77) (4.61)
Thus keynes assumption that consumtion-
income ratio is non-proportional has been
proved in Indian case. APC is not constant.
Data Sources on Consumption
Expenditure in India
NAS and NSSO
Though many studies based their analysis
of changes in consumption pattern on
NSSO, it is not free from limitations
Data from NSS household consumption
expenditure surveys are available
quinquiennally and annual suveys
The quinquiennial survey of 55th round
departed from earlier surveys due to
change in the reference periods for food
and non-food categories (Himanshu, 2005)
Changes in Indian Food
Basket
The food consumption pattern in India is
diversifying towards high value
commodities
Per capita consumption of cereals, mainly
coarse cereals has worsened the
nutritional status of the poor (Praduman,
2007)
Mittal (2007) argued that the increase in
relative prices of cereals and diversification
towards high-value food and changes in
the tastes and preferences are responsible
factors for the delcine
Changes in Indian Food
Basket
Chand (2003) has pointed out that
increase in prices of cereals is much higher
than those of horticultural, milk and milk
products
Decline in consumption of cereals is also
due to rise in prices
The declining trend in the consumption of
rice and wheat for the upper income group
during 1983-1999 due to the consumption
diversification effect
Murthy (2000) argued that tastes and
preferences are important determinants of
consumer demand analysis
Changes in Indian Food
Basket
Rise in income explains 3.74 percent,
while tastes and preferences explains 4.0
and 0.37 percent due to changes in prices-
the decline in cereal consumption
Thus, despite increase in income, these
factors explain the decline in cereal
consumption in India
Over a period, the per capital annual
consumption of edible oils, vegetables,
fruits, milk, meat, fish, eggs and sugar has
increased for both upper and bottom
income groups
Changes in Indian Food Basket-
Rural and Urban
Dietary pattern is converging and becoming
similar in nature
Increasing urbanisation of rural areas led to
penetration of urban lifestyle and thus
narrowed down the differences (Jayathi
Ghosh, 2003)
However, such convergence does not appear
at disaggregated level
Changes in Indian Food Basket-
Across States
Higher incidence of poverty is found in
Orissa (47.2%), Bihar (42.6%), MP (37.4),
Assam (36.1) and UP (31.2%) in 1999-00.
It was found that poorer Indian states
spent a larger portion of their budget on
food as compared to other states.
Higher proportion of expenditure on low-
calorie food
Consumption diversification is found
among higher income groups of these
states
Calorie Consumption
Analysis of estimates of population below
threshold level of calorie, protein and fact
reveal a different picture
A worsening of calorie and protein
consumption in the bottom group of rural
poor
Imbalances in food habits is visible as
percentage of population below the
threshold level of fat consumption declined
between 1983-1999-00
Conculsions
Increase in income, urbanisation and
consumer perceptions regarding food
quality and saftety effecting changes in the
food-consumption pattern
Diversification towards oils, fruits,
vegetables, milk and eggs
Though consumption of coarse cereals is
affected, states such as Maharashtra,
Gujarat and Rajsthan still consume more of
them